I expected Obama to be a better loser, specifically to be better at losing. There were a lot of items on the table, a lot of them weren’t going to happen, but it was important for the new future of liberalism that the Obama team lost them well. And that hasn’t happened. By losing well, I mean losing in a way that builds a coalition, demonstrates to your allies that you are serious, takes a pound of flesh from your opponents and leaves them with the blame, and convinces those on the fence that it is an important issue for which you have the answers. Lose for the long run; lose in a way that leaves liberal institutions and infrastructure stronger, able to be deployed again at a later date.

I think the White House's reply would look something like this:

Successful governance is about getting 60 votes for things that move the ball forward. The people who tend to control the 55th through 60th votes on any given issue are not like you and me. They are driven by a baffling combination of raging egomania and crippling terror. They want to be treated like statesmen even as their decisions are based on a paralyzing fear of contested elections, primary challenges, Fox News and party pressure. They have few opinions on what good policy looks like, what opinions they do have on the subject change frequently, and they're not willing to risk very much on them anyway. Taking a pound of flesh from these people -- or even their allies -- would mean never getting their votes. Want to see what we mean? Look at Don't Ask, Don't Tell. In the end, it got done because Murkowski, Brown and Collins let it get done. Alienating them would've been satisfying, but unwise....

[T]he liberal reply to this would be:

Yes, you're right that these people are driven by fear. But they're afraid of the wrong thing. You have senators in states that went blue in 2008 who seem unconcerned with crossing the president or his massive list of volunteers and supporters. Instead, they're terrified of the Club for Growth, or Fox News, or they're terrified of them not because they have so much power in their state but because they're willing to use that power aggressively. If the president had been making frequent trips to Maine, he might find that Maine's senators were a little more interested in partnering with him on his agenda.

I find both arguments fairly convincing. But not at the same time. The White House's argument made a fair amount of sense given the Democratic tilt of the 111th Congress, which offered unusual possibilities for getting things done, and so made strategies that would alienate even a couple of votes fairly risky. But the liberal argument makes somewhat more sense going forward, as the mixed composition of the next Congress makes getting things done through deals and patience somewhat less likely, while the upcoming election where the president is on the ballot makes the need for an excited base more acute, and makes the consequences of crossing that base more serious for both the White House and swing senators.

Econbrowser: Hazards in Interpreting Seasonals: Professor Casey Mulligan... observes that while retail sales are about 15-20% higher in December than in the previous three months, retail employment is only about 4% higher in December than October, thus proving that fiscal stimulus cannot be very effective at raising employment....

Although the holiday spending surge is clearly associated with a high level of employment, it also shows how spending is a rather indirect way of creating jobs. That holiday spending of roughly $90 billion more in December is associated with about 500,000 additional jobs for a month -- that amounts to $180,000 per job per month! Both Christmas and the fiscal-stimulus act increase demand, but the fiscal-stimulus act depresses supply, because many of its major programs -- the unemployment-insurance extension, the food-stamp program expansion, the home buyer tax credit and more -- are directed at people with low incomes....

This figure (as well as Professor Mulligan's) is irrelevant.... [T]he employment that is relevant is the total employment associated with Christmas-goods production and distribution (in addition to retail employment)... the activity variable that is relevant is not sales, but US related value-added. So not: Δ(sales)/Δ(employmentretail) But: Δ(value added)/Δ(employment)

The value of retail sales incorporates the value added from retail services, plus the value imbedded in the goods themselves. Those goods were produced over the entire year (i.e., not all Christmas ornaments are made in December).... [T]he relevant numerator is smaller, and the relevant denominator bigger, implying the relevant ratio is smaller than Professor Mulligan purports....

There are many valid approaches to critiquing the idea of fiscal stimulus efficacy (e.g., CBO (Nov. 2010). This is not one of them...

And bonus "Laffer Curve" blogging from Menzie Chinn as well:

By the way, this article highlights the hazards of over-interpreting seasonal effects. The canonical example occurred forty years ago, when Arthur Laffer interpreted the seasonal correlation of GDP and money as a causal relationship [4] (critique here). (This episode is not written down in any textbook as far as I know, but is passed down by word-of-mouth as a cautionary tale.)

Gastritis Broke My Calculator: Megan [McArdle]’s whole shtick is some sort of personal girl’s bio of privatizing wealth and socializing loss. Megan’s work doesn’t take place in a vacuum--her posts, essays, tweets and even her god damned marriage are entirely functions of her job as an apologist for Republican politics and economics. When she is writing she writes for them--her conclusions are fixed and only the method of getting there shifts. When she’s right, I presume (I’ve never seen it) she and her philosophy take all the credit. When she’s wrong, and she’s caught out in a lie, a total misstatement, a deceptive sleight of graph suddenly its all just a little, tiny, personal mistake that we should put down to dodgy tummy, food poisoning, asthma, wedding jitters, veganism, or whatever else she can summon up as an excuse.

The fact that she said what she said because she was paid to say it simply drops out of the picture. Indeed, the very notion that her writing matters drops out of the discussion (check out her pro side commenters who routinely attack readers for reading her seriously as “crazy” and “stalkers” who “can’t let go” of a “little blog post” that happened “years ago.”

U.S. weekly jobless claims drop 34,000 to 388,000: WASHINGTON (MarketWatch) -- The number of U.S. workers filing new applications for jobless benefits fell 34,000 to a seasonally adjusted 388,000 in the week ended Dec. 25, hitting the lowest level since July of 2008, the Labor Department reported Thursday. Economists polled by MarketWatch had expected initial claims of 413,000. The four-week average of new claims, which is smoother than the weekly data, fell 12,500 to 414,000, also reaching the lowest level since July of 2008. The level of claims helps observers to analyze the health of the labor market, and economists say claims would have to remain below 400,000 before there's a substantial gain in hiring. Analysts also note that claims are difficult to seasonally adjust near the holidays..

House Republican Rule Changes Pave the Way For Major Deficit-Increasing Tax Cuts: Current House rules include a pay-as-you-go requirement that any tax cut or spending increase for a mandatory (i.e., entitlement) program must be offset by cuts in other mandatory spending or increases in other taxes, in order to avoid increasing the deficit. [1] Current rules also bar the House from using budget “reconciliation” procedures — special rules that facilitate speedy action on specified budget legislation — to pass bills that would increase the deficit. The new rules would alter and greatly weaken these commonsense measures:

The new rules announced December 22 would replace pay-as-you-go with a much weaker, one-sided “cut-as-you-go” rule, under which increases in mandatory spending would still have to be paid for but tax cuts would not....

The new rules would stand the reconciliation process on its head , by allowing the House to use reconciliation to push through bills that greatly increase deficits as long as the deficit increases result from tax cuts, while barring the use of reconciliation in the House for legislation that reduces the deficit if that legislation contains a net increase in spending (no matter how small) that is more than offset by revenue-raising provisions....

Moreover, measures to scuttle the current, even-handed pay-as-you-go rule and to allow use of the reconciliation process to increase the deficit are even more indefensible today than such steps were in 2001....

Another aspect of the proposed rules also seems at odds with promises made in the campaign about what a new Republican majority would do. There was much talk about increasing the transparency of the legislative process....

[T]he new rules also include a stunning and unprecedented provision authorizing the Chairman of the Budget Committee elected in the 112th Congress, expected to be Representative Paul Ryan of Wisconsin, to submit for publication in the Congressional Record total spending and revenue limits and allocations of spending to committees — and the rules provide that this submission “shall be considered as the completion of congressional action on a concurrent resolution on the budget for fiscal year 2011.” In other words, in the absence of a budget resolution agreement between the House and the Senate, it appears that Rep. Ryan (presumably with the concurrence of the Republican leadership) will be allowed to set enforceable spending and revenue limits, with any departure from those limits subject to being ruled “out of order.”

This rule change has immediate, far-reaching implications. It means that by voting to adopt the proposed new rules on January 5, a vote on which party discipline will be strictly enforced, the House could effectively be adopting a budget resolution and limits for appropriations bills that it has never even seen, much less debated and had an opportunity to amend. (There is no requirement for Representative Ryan to make his proposed spending and revenue limits available to Members or the public before the vote on the new rules.)... This imposition of budget limits without debate or votes hardly seems consistent with the promised increase in transparency in the legislative process, much less with sound — or fair — budget practices.

The new rules also specifically empower the Budget Committee Chairman to exempt from budget enforcement rules the fiscal effects of repealing the health reform law. The Congressional Budget Office has estimated that the health reform law will reduce deficits by more than $100 billion over the first ten years and by roughly $1 trillion or more over the second ten years. Its repeal would increase deficits by those amounts...

And Stan Collender emails:

From my experience, this new rule would be close to unprecedented in terms of the power it assigns to a single member of Congress [Paul Ryan] ... at least as far as the budget is concerned. The way it's supposed to work is that, once the budget resolution conference report has been approved by both houses, the House Budget Committee as a whole has to vote on and approve what are known as the 302(A) allocations -- basically, how much the appropriations committee has to spend. The Ryan rule eliminates both the need for an agreement between the House and Senate on overall spending (i.e., a budget resolution) and the need for the House Budget Committee to approve the allocations. No debate in committee or on the House floor either.

It sets up a real Perils of Pauline situation when the CR expires in March assuming that Ryan comes up with allocations that cut spending to the 2008 levels. The House will be prohibited from considering legislation that would cause spending to be higher than those greatly reduced levels. The Senate, meanwhile, will likely have no comparable requirement and presumably will be unable or unwilling to approve a CR (or omnibus, or individual approps) for the rest of FY11 at those levels. So the House won't be able to consider what the Senate wants and the Senate won't approve what the House wants.

The House could always ignore or change its own rules, but I doubt it will want or be able to do that with what is likely to be the first big challenge on spending that occurs next year. The tea party will go nuts if they do.

And given that this will be happening 6-7 months into the fiscal year, the only way to get the savings the spending levels will be to fire thousands of federal employees virtually immediately.

As I keep saying, the mantra next year on anything having to do with the budget should be "gridlock, stalemate, shutdown."

In this year, before Christmas, king Henry sent from Normandy to England, and commanded that all the moneyers that were in England should be deprived of their members; that was the right hand of each, and their testicles beneath. That was because the man that had a pound could not buy for a penny at a market. And the bishop Roger of Salisbury sent over all England, and commanded them all that they should come to Winchester at Christmas. When they came thither they were taken one by one, and each deprived of the right hand and the testicles beneath. All this was done within the twelve nights; and that was all with great justice, because they had fordone all the land with their great quantity of false money which they all bought.

What “lump of energy” fallacy?: Brad DeLong has just posted a couple of links to articles that attack an article by David Owen in the New Yorker [subscription required]. Owen’s article relied heavily on the claim that increased energy efficiency doesn’t really deliver the hoped-for environmental benefits, because of something called the “rebound effect”. Here’s an explanation of that effect by James Barrett in one of the linked pieces:

In essence the rebound effect is the fact that as energy efficiency goes up, using energy consuming products becomes less expensive, which in turn leads us to consume more energy. Jevons’ claim was that this rebound effect would be so large that increasing energy efficiency would not decrease energy use...

Owen’s critics say that although the rebound effect is real, whether it is large enough to have the effects Owen claims is an empirical matter, and they are sceptical. Basically, they argue that the increase in energy consumption is not just down to lower prices but also to greater wealth, house size, etc. and so without greater efficiency, we might be consuming a whole lot more energy than we actually are. Basically: it all depends on the facts, and the jury’s out.

Ok, so now let’s do a little substitution in that sentence quoted earlier.

In essence the rebound effect is the fact that as labor efficiency goes up, using labor consuming products becomes less expensive, which in turn leads us to consume more labor. [The] claim was that this rebound effect would be so large that increasing labor efficiency would not decrease labor use...

The amended claim reads as the response those same economists might make to Luddites everywhere. “Don’t worry, the new technology will not put you out of work!” Or perhaps, more honestly, “even if the new technology puts some people out of work for a bit, it will not reduce and may even increase demand for labour, and people will be better off.”... [W]hy do [at least some] economists respond to the claim about energy efficiency with “its an empirical matter”, whilst chanting “lump of labour fallacy!” at people who worry that technological change will cost jobs? Why is one a matter of looking at the evidence, whilst the other is determined more or less a priori?

Bertram seems to go from a real world in which Barrett and Kahn criticize Owens, to a counterfactual world in which Barrett and Kahn "might" say something about technology and demand for labor, and then come back to a real world in which he sees "economists... [dismiss] worry... that technological change will cost jobs... more or less a priori."

Let's be clear: to the best of my knowledge--and I have looked--neither of "those same economists"--the two people I cite, Jim Barrett nor Matt Kahn--says to Luddites or to anybody else: "Don't worry! New technology will not put you out of work!" They simply do not say what Bertram says they "might" say. It is true in the subjunctive that if your grandmother were to have wheels then she would be a bus. But it is much more important that it is true in the indicative that your grandmother does not, in fact, have wheels. Let's stick to what people do say in this one.

I say that--at least among those economists I speak too, whether of the left, of the center, or of the right--it is simply not the case that one set of issues is settled by examination of history and evidence and the other settled by a theoretical a priori argument. Both are settled by examination of history and evidence.

In the case of the effect of new technology on the demand for labor, at a price this afternoon of $0.14/pound a pound of potatoes costs thirty seconds' work at the average wage for people in America today and cost two hours' work for the Daly branch of my ancestors in pre-Potato Famine Ireland, suggesting that all the new technologies invented and all the capital formation undertaken since the 1840s have in aggregate multiplied the bargaining power of labor when buying potatoes by a factor of 240. Ever since the catastrophic downfall of the handloom weavers that you are in big trouble if your skills are substitutes for the capabilities of new technology (and in clover if your skills are complements). But in general it has not been wise to bet that new technology will reduce the bargaining power of and so immiserize labor.

In the case of the effect of energy efficiency-improving technologies on energy consumption, both Kahn and Barrett have things to say about this that are grounded in evidence. They do not say: "it all depends on the facts, and the jury’s out." They say: it all depends on the facts, and the jury is in.

First Kahn:

Kahn: For products that require our time to use (such as driving) or for which we have limited demand (refrigerators), I do not believe that the rebound effect is an important issue. Consider another example, building energy codes. In California, new construction has faced more stringent energy efficiency standards. In this case, there is no “rebound effect”. No Don Trump builds a bigger building because energy efficiency per square foot has increased. There are certainly cases in which David Owen is right. Consider the washing machine for clothes and dishes. As washing machines become more efficient and cheaper to operate, people do more loads of wash. This technology saves us time and people have a very high demand for clean underwear! Consider a central air conditioning system. There are people who would love to set their thermostat at 65 degrees on a hot summer day. In the past, when AC units were inefficient this would have cost a fortune. As air conditioning units become more energy efficient, some people may choose to lower their summer thermostat reading. While such diversity exists, the average person will choose to have a lower energy bill. My bottom line is that energy efficiency improvements will shrink our carbon footprint.

Now Barrett:

Barrett: [T]he rebound effect is real. The theory behind it is sound: Lower the cost of anything and people will use more of it.... The problem with knowing how far to take things like this is that... the real world is complicated and trying to disentangle everything that’s going on is very difficult. Owen cleverly avoids this problem by not trying to disentangle anything.

One supposed example of the Jevons paradox that he points to in the article is air conditioning.... Owen notes that between 1993 and 2005 air conditioners in the U.S. increased in efficiency by 28% but by 2005 homes with air conditioning increased their consumption of energy for their air conditioners by 37%. Owens presents this as clear and obvious proof of a Jevons effect. Case closed.

Here is where Owen gets lazy: A few key facts disprove the point.... Real (inflation adjusted) per capita income increased by just over 30% over that time period. All else being equal, when people have more money, they buy more stuff, including cool air. The average size of new homes increased... over 16%. More square feet means more area to cool and more energy needed to cool it. In 1993, of homes that had A.C., 38% only had room units.... By 2005, 75% of air conditioned homes had central units.... Finally... the efficiency of the average central air unit in service in 2005... [was] about 11.5% more... than... in 1993....

All of the increase in energy consumption for air conditioning is easily explained by factors completely unrelated to increases in energy efficiency. All of these things would have happened anyway. Without the increases in efficiency, energy consumption would have been much higher....

It’s easy to be sucked in by stories like the ones Owen tells. The rebound effect is real and it makes sense. Owen’s anecdotes reinforce that common sense. But it’s not enough to observe that energy use has gone up despite efficiency gains and conclude that the rebound effect makes efficiency efforts a waste of time, as Owen implies...

Persistent unemployment and the jobless recovery : The recession has been over for more than a year now, but so many people are out of work that it doesn’t feel like much of a recovery.... Why have new jobs been so hard to come by? One view blames cyclical economic factors: at times when everyone is cautious about spending, companies are slow to expand capacity and take on more workers. But another, more skeptical account has emerged, which argues that a big part of the problem is a mismatch between the jobs that are available and the skills that people have.... The structural argument sounds plausible: it fits our sense that there’s a price to be paid for the excesses of the past decade; that the U.S. economy was profoundly out of whack before the recession hit; and that we need major changes in the kind of work people do. But there’s surprisingly little evidence for it. If the problems with the job market really were structural, you’d expect job losses to be heavily concentrated in a few industries, the ones that are disappearing as a result of the bursting of the bubble. And if there were industries that were having trouble finding enough qualified workers, you’d expect them to have lots of job vacancies, and to be paying their existing workers more and working them longer hours.

As it happens, you don’t see any of those things. Instead, jobs have been lost and hiring is slow almost across the board. Payrolls were slashed by five per cent or more not just in the bubble categories of construction and finance but also in manufacturing, retail, wholesale, transportation, and information technology. And take hiring: one of the industries that have been most cautious is the hotel and leisure business. Needless to say, there’s no shortage of people with the skills to be maids or waiters; there just isn’t enough work. Another sure sign of weak demand is that people with jobs aren’t deluged with overtime; hours worked have barely budged in the past year.

Believers in the structural argument refer to something called the Beveridge Curve.... But a careful analysis of Beveridge Curve data by two economists at the Cleveland Federal Reserve shows that it’s behaving much the way it has in previous recessions: there are as few job vacancies as you’d expect, given how desperate people are for work. The percentage of small businesses with so-called “hard-to-fill” job vacancies is near a twenty-five-year low, and open jobs are being filled quickly. And one recent study showed that companies’ “recruiting intensity” has dropped sharply, probably because the fall-off in demand means that they don’t have a pressing need for new workers.

Don’t expect the structural argument to go away, though. It’s a perennial: nearly every recession leads pundits to proclaim that the job market is facing structural challenges, and that higher unemployment is here to stay. During the 1981-82 recession, now seen as a classic cyclical recession, the economist Barry Bluestone warned that, as a result of structural issues, there might not be “much recovery in terms of overall employment in the United States.” Yet, by 1984, unemployment was back to where it had been before recession hit. A 1964 survey of economists found that more than half believed structural issues were playing a significant role in limiting the number of jobs; three years later, unemployment was below four per cent. And, during the Great Depression, even F.D.R. thought that unemployment might well be stuck at a permanently higher level. Recessions are, among other things, crises of confidence, and one manifestation of lack of confidence is the conviction that this time we’re not going to be able to climb our way out.

Structural issues aren’t irrelevant, of course; there are certainly plenty of construction workers who are going to have start plying a new trade. But what defined the recent recession was the biggest decline in consumption and investment since the Depression. Dealing with that is the place to start if we want to do something about unemployment. The structural argument makes government action seem irrelevant. But if we don’t do more to get the economy back up to speed, it won’t be because stimulating demand won’t work. It will be because we’ve chosen not to do it. If we can’t find the way, it’s because we don’t have the will. ♦

Nationalist accounting tricks: Immigration reduces inequality | The Economist: DID you know that nation-level income inequality would drop if the government herded all the poor people onto boats and dropped them off on a distant island? Newsweek's Mickey Kaus, apparently excited by this sort of logic, proposes something similar as a winning solution to America's alleged inequality woes. The difference is that Mr Kaus proposes to keep relatively poor people out in the first place:

If you're worried about incomes at the bottom, though, one solution leaps out at you. It's a solution that worked, at least in the late 1990s under Bill Clinton, when wages at the low end of the income ladder rose fairly dramatically. The solution is tight labor markets. Get employers bidding for scarce workers and you'll see incomes rise across the board without the need for government aid programs or tax redistribution. A major enemy of tight labor markets at the bottom is also fairly clear: unchecked immigration by undocumented low-skilled workers. It's hard for a day laborer to command $18 an hour in the market if there are illegals hanging out on the corner willing to work for $7. Even experts who claim illlegal immigration is good for Americans overall admit that it's not good for Americans at the bottom. In other words, it's not good for income equality.Odd, then that Obama, in his "war on inequality," hasn't made a big effort to prevent illegal immigration--or at least to prevent illegal immigrration from returning with renewed force should the economy recover.

This is badly misleading. A move to United States is an upwardly mobile move for almost all low-skilled immigrant workers, and it tends to reduce inequality on the whole. As a matter of description, Mr Kaus' conclusion follows only if we grant him the premise that the trend in inequality is best measured by looking at the set of people inside a country's borders at one point in time and then comparing it to the set of people inside the country's borders at a later point in time. I propose we reject this premise.... [I]f we seek to measure how people fare, as opposed to how fenced-in national populations fare, the correct measure is what they call "income per natural". On an income-per-natural basis, almost nothing reduces inequality more dramatically than the migration of low-skilled workers from a poorer country to a richer country.

The only reason to make the within-borders population of a nation-state our analytical touchstone is a prior commitment to the idea that the nation-state is the correct unit of normative evaluation... an unacknowledged commitment to moral nationalism.... We are interested in inequality in large part because most of us believe, rightly or wrongly, that levels and trends in inequality function as a rough measure of our society's justice.... [M]oral nationalism... not only blinds us to the way immigration dramatically reduces poverty and inequality, but also creates the illusion that immigration worsens what we assume to be a form of injustice.

Historically, the most vicious forms of inequality and injustice are based on coercive exclusion, and this is precisely what Mr Kaus proposes ramping up....

Despite popular belief, often based on anecdotes and bodged analysis, there is hardly any evidence that immigrant workers have a negative effect on the wages of native workers (see for instance Card 2009 and Glitz 2007) or that they crowd-out other jobs in the US (Card and Di Nardo 2000) or Europe. On the contrary, some authors emphasise the existence of a potentially positive effect of immigrants on the demand for native workers.

This is admittedly counterintuitive. Here's how Messrs D'Amuri and Peri account for the puzzling pattern found in the data:

Our hypothesis is that immigrants, who often do not speak the language and do not master the culture and norms of the host country, are concentrated in more manual-routine tasks (especially among less educated groups). The inflow of immigrants thus increases the supply of manual skills relative to the supply of abstract skills with two effects:

Due to the complementarity between these types of skills, the increase in the supply of manual tasks boosts relative compensation for complex skills, making them better paid.

Exploiting their comparative advantage, natives move to occupations requiring a relatively higher level of these skills.
This positive reallocation and the complementarity of tasks can explain the lack of negative employment effects as well as the potential positive wage effects of immigration on native workers.

So here's how it all shakes out. Low-skilled immigration reduces economic inequality when we set aside nationalist assumptions and focus on people instead of populations. Even if we cling to analytical and moral nationalism, low-skilled immigration doesn't happen to increase measured inequality. On the contrary, complementaries between the skills of migrant and native workers can leave natives better off than they would have been with less immigration.

Economist's View: Fannie, Freddie, and the Pain Caucus: The members of the Pain Caucus see things differently when they will be the ones blamed for the pain (which tells us something about how all those calls for deficit reduction from the GOP are likely to turn out). House Republicans, who now have responsibility for the oversight of Fannie and Freddie, have decided that dismantling Fannie Mae and Freddie Mac isn't so urgent after all:

Suddenly, some members of the GOP realize they actually will be part of the government, by Richard Green: Alan Zibel writes in the Wall Street Journal:

Earlier this year, leading House Republicans proposed to privatize mortgage giants Fannie Mae and Freddie Mac or place them in receivership starting in two years.

Now, as Republicans prepare to assume control of the House next week, they aren't in as big a rush, cautioning that withdrawing government support in the housing market should be gradual.

"We recognize that some things can be done overnight and other things can't be," said Rep. Scott Garrett (R., N.J.), incoming chairman of the House Financial Services subcommittee, which oversees Fannie and Freddie. "You have to recognize what the impact would be on the fragile housing market as it stands right now."

I actually don't think the mortgage market will ever be truly a private sector enterprise. Suppose Fannie and Freddie were to go away: the most likely entities to step into the residential finance market would be banks. Would this be privatization? Not really. Banks receive explicit guarantees (FDIC) and, as we know from recent events, implicit guarantees as well (TARP was nothing if not the execution of an implicit Federal guarantee).

The conservative complaint about Fannie and Freddie is that they privatized profit while socializing risk. This is doubtless true. I just don't see how it is any less true for banks.

But this winner's psyche is not sufficient. History shows that three variables are crucial in countering an insurgency: a real process of reconciliation, no safe havens for the enemy and a competent host government. None are present in Afghanistan...

So which is it? Is it about American "willpower," or is it about whether there is a competent host government, an absence of safe havens, and a real reconciliation process? It has to be one or the other.

So it is too bad that Michael Froomkin is right when he writes:

Units of Measure: As coined by Atrios, a “Friedman” or “Friedman unit” is famously six months — the amount of time that the columnist keeps telling us it will take before we know whether Iraq turns the corner, finds the lights at the end of the tunnel….but when the time passes, we just get the same prediction again and again. Is it time to define a new unit of measure, “the DeLong” — as the five years he predicts the Washington Post has before it craters (unless it changes)?

Admittedly, what makes the Friedman a Friedman is that we’ve had so many of them since he first made that ill-fated prediction. And as far as I know, the first sighting of Brad’s prediction may be March 7, 2007, which is pretty recent. So it’s not quite the same thing.

But I bet the Post lasts longer than five years despite all its dreadful editorial flaws. It has a lock on the local classified ad market, and its web site is a category killer that will smother local competitors. That’s going to be monetizable some day and will help keep the print paper afloat.

[Original draft 4/18/2007. In preparation for my blog redesign, I found draft blog posts that somehow never made it to publication. This is one of them.]

2010: As a prediction, I think it’s looking good. As a newspaper, though, the Post really is looking awful.

A Time to Spend by J. Bradford DeLong - Project Syndicate: The central insight of macroeconomics is a fact that was known to John Stuart Mill in the first third of the nineteenth century: there can be a large gap between supply and demand for pretty much all currently produced goods and services and types of labor if there is an equally large excess demand for financial assets. And this fundamental fact is a source of big trouble.

A normal gap between supply and demand for some subset of currently produced commodities is not a serious problem, because it is balanced by excess demand for other currently produced commodities. As industries suffering from insufficient demand shed workers, industries benefiting from surplus demand hire them. The economy rapidly rebalances itself and thus returns to full employment – and does so with a configuration of employment and production that is better adapted to current consumer preferences.

By contrast, a gap between supply and demand when the corresponding excess demand is for financial assets is a recipe for economic meltdown. There is, after all, no easy way that unemployed workers can start producing the assets – money and bonds that not only are rated investment-grade, but really are – that financial markets are not adequately supplying. The flow of workers out of employment exceeds the flow back into employment. And, as employment and incomes drop, spending on currently produced commodities drops further, and the economy spirals down into depression.

Thus, the first principle of macroeconomic policy is that because only the government can create the investment-grade financial assets that are in short supply in a depression, it is the government’s task to do so. The government must ensure that the money supply matches the full-employment level of money demand, and that the supply of safe savings vehicles in which investors can park their wealth also meets demand.

How well have the world’s governments performed this task over the past three years?

In East Asia (minus Japan), governments appear to have been doing rather well. Shortage of demand for currently produced goods and services and mass unemployment no longer loom as the region’s biggest macroeconomic problems. Flooding their economies with liquidity, maintaining export-friendly exchange rates, and spending to employ workers directly and boost the supply of safe savings vehicles have made the Great Recession in East Asia less dire than it has been elsewhere.

In North America, governments appear to have muddled through. They have not provided enough bank guarantees, forced enough mortgage renegotiations, increased spending enough, or financed enough employment to rebalance financial markets, return asset prices to normal configurations, and facilitate a rapid return to full employment. But unemployment has not climbed far above 10%, either.

The most serious problems right now are in Europe. Uncertainty about how, exactly, the liabilities of highly leveraged banks and over-leveraged peripheral governments are to be guaranteed is shrinking the supply of safe savings vehicles at a time when macroeconomic rebalancing calls for it to be rising. And the rapid reductions in budget deficits that European governments are now pledged to undertake can only increase the likelihood of a full double-dip recession.

The broad pattern is clear: the more that governments have worried about enabling future moral hazard by excessive bailouts and sought to stem the rise in public debt, the worse their countries’ economies have performed. The more that they have focused on policies to put people back to work in the short run, the better their economies have done.

This pattern would not have surprised nineteenth-century economists like Mill or Walter Bagehot, who understood the financial-sector origins of industrial depression. But it does seem to surprise not only a great many observers today, but also a large number of policymakers.

Stan Collender on how Republican "concern" for the deficit over the past two years was just another pack of lies:

GOP on the Deficit: Do as I Say, Don't Watch What I Do | Capital Gains and Games: There is now no doubt that all of the GOP talk during the campaign about reducing the deficit was nothing more than a ploy to get elected and that Republicans have no plans to do anything but make the federal government's red ink larger than it already is and would otherwise be. The proof? Take a look at this outstanding report by Bob Greenstein and Jim Horney of The Center on Budget and Policy Priorities -- two of the most respected federal budget analysts anywhere -- published just before Christmas about how House Republicans are about to put in place new budget procedures that make it likely the deficit will be increased rather than decreased.

The first is a change in the pay-as-you-go rules that will no longer require proposed tax cuts to include offsets so that there's no increase in the deficit. Under the new GOP rules, that would only apply to proposed increased in mandatory spending. In addition, proposed mandatory spending increases could only be offset with reductions in other mandatory spending. The previous PAYGO rule that allowed the offset to be either spending cuts or revenue increases would be eliminated.

The second change is that the reconciliation procedures in the congressional budget process would be changed so that they could be used to increase the deficit if the increase was the result of a tax cut (The House democratic leadership several years ago revised the reconciliation rules so that it could be used only to reduce the deficit).

Finally, as the CBPP report says, the new rules would allow a number of potentially huge deficit increasing policies to be adopted without offsets:

Extending or making permanent the 2001 and 2003 Bush tax cuts (including the tax cuts for the highest-income taxpayers) and relief from the Alternative Minimum Tax;

Extending or making permanent the hollowing out of the estate tax included in the just-enacted tax-cut compromise legislation; and

Legislation to provide a major, costly new tax cut — a deduction equal to 20 percent of gross income for “small businesses,” which Republican lawmakers typically have defined very expansively so the term covers a vast swath of firms and wealthy individuals that do not resemble what most Americans think of as a “small business.”

In the wake of the GOP's insistence in the lame duck session on the tax deal option that would increase the deficit the most, it has become obvious that all of the deficit reduction talk Republicans used during the 2010 election had nothing to do with what the party was really about or what it plans to do over the next two years.

Based on the record in the 10 weeks or so since the election, it seems clear that the GOP rhetoric about reducing the deficit will remain but that, instead of proposing things that will reduce it, Republican-proposed legislation will increase the deficit and federal borrowing substantially...

Siege of Leiden - Wikipedia: [T]he dyke of Greenway halted the water, but this was seized and cut. But as the water spread over the countryside, it also grew shallower.... Soon, the water was so shallow that most of the Dutch ships ran aground. Meanwhile, in the city, the inhabitants clamoured for surrender when they saw that their countrymen had run aground. But Mayor van der Werff inspired his citizens to hold on by offering his arm as food. Thousands of inhabitants died of starvation. They held on because they knew that the Spanish would kill them all to set an example, as had happened in Naarden and Haarlem. Only on October 1[, 1574] did the wind, which previously blown from the east pushing the water out of the countryside, shift to the west which blew the sea water into the countryside. Then the rebel fleet was afloat again and they advanced.... [O]n the night of October 2/3, the Spanish retreated from their fort and lifted the siege....[T]he relieving rebels arrived at the city, feeding the citizens with herring and white bread. The people also feasted on 'Hutspot' (carrot and onion stew) in the evening. According to legend, a little orphan boy named Cornelis Joppenszoon found a cooking pot full with 'Hutspot' that the Spaniards had had to leave behind when they left their camp, the Lammenschans, in a hurry to escape from the rising waters...

The Defeat of the Spanish Armada, 1588:

Flavit Jehovah et Dissipati Sunt: Jehovah blew with His winds, and they were scattered is a famous phrase on the aftermath of the defeat of the Spanish Armada in 1588, when the Spanish fleet was broken up by a storm...

The "Glorious Revolution" Overthrow of King James II Stuart by William III Orange, 1688:

Glorious Revolution: [O]n 8 October... the expedition was... openly approved by the States of Holland; the same day James issued a proclamation to the English nation that it should prepare for a Dutch invasion to ward off conquest. On 30 September/10 October (Julian/Gregorian calendars) William issued the Declaration of The Hague.... William declared:

It is both certain and evident to all men, that the public peace and happiness of any state or kingdom cannot be preserved, where the Laws, Liberties, and Customs, established by the lawful authority in it, are openly transgressed and annulled; more especially where the alteration of Religion is endeavoured, and that a religion, which is contrary to law, is endeavoured to be introduced; upon which those who are most immediately concerned in it are indispensably bound to endeavour to preserve and maintain the established Laws, Liberties and customs, and, above all, the Religion and Worship of God, that is established among them; and to take such an effectual care, that the inhabitants of the said state or kingdom may neither be deprived of their Religion, nor of their Civil Rights.

William went on to condemn James's advisers for overturning the religion, laws, and liberties of England, Scotland, and Ireland by the use of the suspending and dispensing power; the establishment of the "manifestly illegal" commission for ecclesiastical causes; and its use to suspend the Bishop of London and to remove the Fellows of Magdalen College, Oxford.... James's attempt to pack Parliament was in danger of removing "the last and great remedy for all those evils". "Therefore", William continued, "we have thought fit to go over to England, and to carry over with us a force sufficient, by the blessing of God, to defend us from the violence of those evil Counsellors...this our Expedition is intended for no other design, but to have, a free and lawful Parliament assembled as soon as is possible."...

For three weeks the invasion fleet was prevented by adverse south-westerly gales from departing from the naval port of Hellevoetsluis, and Catholics all over the Netherlands and the British kingdoms held prayer sessions that this "popish wind" might endure. However, on 14/24 October it became the famous "Protestant Wind" by turning to the east...

I suspect Michael Froomkin's French sounds to les parisiens like the French from a movie made in the 1930s--emigrant language speakers do tend to freeze vocabulary, grammar, and slang, and transmit the frozen version to those who learn from them:

Somehow “Votre navigateur n’accepte pas les cookies” seems like amazing Franglais. This is why I wonder if I still speak French sometimes: The language has borrowed so much English that it has left me behind.

When I go to France, I sometimes wonder if people think I sound like someone speaking Edwardian English. If I could only convince myself the effect was Shakespearean...

Open Left:: Disease in drag as diagnosis: The conservative attack on sound public finance.: In an excerpt from his Sept 27 "Government Deficits and Debts Lecture", Brad DeLong lays out his "Five Rules for Public Finance," and a conservative critique that he gives too much credit to. Why is that? Because the conservative critique is less an objective observation of how governments in the welfare state era had acted up to that point than a prospective justification for the conservative looting that was to come.... And now here's the conservative critique:

I want to close this lecture by making a right wing argument that these five rules are inconsistent and we have to drop one of them. This right-wing argument is one that back when I was your age I pooh-poohed as nonsensical and simply silly. But it is 30 years later. I at least feel a little bit wiser. It's not that I believe this right-wing argument completely. But it has much more force with me than it did 30 years ago.... If you try to enunciate the principal that cyclical deficits in downturns are good and permanent structural deficits are bad--that is just too complicated for the political system to process. If you tolerate and approve of cyclical deficits to fight downturns, Jim Buchanan argued, then you're setting the political stage for permanent structural deficits because politicians will be eager to grab the argument that the deficits that they want to run are actually good for the economy. Allow cyclical deficits, and you make permanent large structural deficits likely. They will slow growth by crowding out investment. They might eventually lead to an erosion of confidence in the government's ability to pay back its promises--and so lead you down the road to Mad Max...

Actually, the structural deficit/structural deficit is not inherently too difficult for the political system to process. This was not an objective assessment of historical reality, but a strategic assessment of political vulnerability, and one that Ronald Reagan proceeded to begin exploiting to the hilt in order to destroy the welfare state, and thus return the majority of the citizenry to a state of permanent want, which conservatives have always thought to be the morally proper order of things.... [I]t was never the political system in and of itself that couldn't tell the difference between structural and cyclical deficits. That was never the real story of what was going on. It was just the conservative cover story--nothing more. Misleading the public on fiscal policy--among many other things--was always a key aspect of conservative strategy. The problem wasn't the system, but conservative's ability to game the system. And the solution wasn't to give up on sound fiscal thinking, but to strengthen the truth-orientation (aka "reality-based orientation") of the political system.

This is, in short, just another chapter in the age-old dispute between liberals and conservatives. Conservatives--living on Kegan's Level 3--say that we're doomed because of the nature of the cosmos and ourselves. Liberals--living on Kegan's Level 4--say, "Wait a minute. There's an app for that." And if not, Radicals--living on Kegan's Level 5--will come along and invent one.

Yes, They're Frauds: From CBPP, House Republican Rule Changes Pave the Way For Major Deficit-Increasing Tax Cuts, Despite Anti-Deficit Rhetoric:

House Republican leaders yesterday unveiled major changes to House procedural rules that are clearly designed to pave the way for more deficit-increasing tax cuts in the next two years. These rules stand in sharp contrast to the strong anti-deficit rhetoric that many Republicans used on the campaign trail this fall. While changes in congressional rules rarely get much public attention, these new rules — which are expected to be adopted by party-line vote when the 112th Congress convenes on January 5 — could have a substantial impact and risk making the nation’s fiscal problems significantly worse.

I hear that a lot of journalistic insiders were annoyed when I began calling out self-styled deficit hawks like Paul Ryan as flim-flammers. But they are; nobody, and I mean nobody, in a position of influence within the GOP cares about deficits when tax cuts for the affluent are on the line. Deficit hawkery is just a stick with which to beat down social programs.

Pity US centrists: no ideas, few fans and no label: In the end the lame-duck session of the 111th US Congress belied its mocking designation and got a lot done. It passed the grand tax compromise. It ratified the new strategic arms reduction treaty with Russia. It repealed “don’t ask, don’t tell”, so gays in the armed forces will no longer have to lie about their sexual orientation.

Notable achievements, all. Grounds, even, for optimism about what the next Congress might do? Probably not.

The thing to note about all of these important votes is that – curiously – and despite the contention they aroused on Capitol Hill, they were all quite popular with the American public, as well as being good decisions on their merits. They should never have been controversial in the first place.

It is a tribute to the obduracy of the Washington political class that they ever were, and indeed that all three initiatives might easily have failed...

The piece of the "grand tax compromise" that the Republicans demanded--the extension of the 2001 shift of the tax burden off of the income tranche above $250K a year and onto future generations--is neither popular with the American people nor a good decision: we need to raise taxes and the only valid argument for not raising a particular tax now is if those on whom it will fall have a high marginal propensity to consume.

That aside, Crook is right in the first three paragraphs I quote: the rest of it was all popular, all good decisions, and all should have been uncontroversial.

But it is in the last sentence I quote that Crook completely loses touch with reality and goes spiraling off into the gamma quadrant.

That all three initiatives might easily have failed and that they were "controversial" is not due to the "obduracy" of something that is "the Washington political class."

That all three initiatives might easily have failed and that they were "controversial" is due to the decision by the united Republican senatorial caucus that their highest priority was to block everything--especially if it was sensible and popular--so that Obama's presidency would be a failure.

US data emphasise lingering risk to recovery: House prices and consumer confidence have fallen by more than expected, according to data released on Tuesday, emphasising the lingering risk that a weak housing market will dent domestic demand and undermine the US economic recovery. According to the widely followed Case-Shiller index, house prices dropped by 1.3 per cent between September and October, the fourth consecutive month in which prices have fallen. Prices across 20 US urban areas stood 0.8 per cent below the level of October 2009, a sharper fall than economists had expected. Separately, the Conference Board, a research group, said that its index of consumer confidence had declined to 52.5 in December from a revised reading of 54.3 in November, confounding the expectations of most economists who had predicted an increase to nearly 57....

While most data show the US economy is continuing to pick up steam, the housing market and its effect on consumer confidence is one of its weakest links. House prices are being held back by a huge pipeline of foreclosures that has not yet worked through the system and by the continued difficulty that many consumers have in getting a mortgage...

We can salute the bravery of the Confederate Army, while deploring their aims.

This is a fairly conventional point which relies on relatively established mores. They are, in this case, 1.) Slavery was bad 2.) The men who died at Gettysburg, Antietam, and Vicksburg on both sides, were brave. Or some such. Moreover it makes me sound fair-minded in my willingness to allow for a kind of moral out for all sides, regardless of their sympathies.

But let's say I go on television and say:

Confederate bravery is neither unique, nor in and of itself, praise-worthy. Mohammad Atta was brave. The kamikazes were brave. But bravery in service of evil should never be commemorated.

This is a problem. Even in writing it, I've had to take up more space then the previous assertion. Likely, I could edit it down to a sentence or two. But I leave it this way to show how much space and time it takes me to make the more contentious point, one that challenges our accepted thinking, (the 9/11 bombers were brave) and leaves no room for an honorable retreat. Pushing the point further, I could, as was done the other night, simply call the firing on Fort Sumter a terrorist attack. This is almost certainly untrue, but it incites our visceral disgust for terrorism and thus leaves the point of commemorating implicit....

Surely concision, favors the simple and conventional, but this is as true in writing as it is talking on cable news. The problem is that intellectuals are (hopefully) trained to write. They aren't trained to talk.

Going into the next few years, we need historians debating the Civil War's causes not "liberal columnists" who could just as easily be debating health care or TARP. I'm a liberal, but I don't really see how pointing out that the South seceded to preserve and expand slavery necessarily leads to an argument for single-payer health care. I mean, I hope it does. But there's no real reason why it has to.

Israel's Self-Delegitimization Movement: I would like someone in the Netanyahu government to please explain the plan here.... Is the plan to continue settling Judea and Samaria so that there is no chance whatsoever of creating a Palestinian state? And if this is the plan, then what happens to those Palestinians who are being denied a state?... [A]re they going to be denied democratic rights[?]... Or is there some other plan? Or -- maybe -- there is no plan. Maybe these things just happen.... Why would Israel's government acquiesce to the building of settlements that serve only to hurt Israel's reputation among people who are on the fence?.... Even right-wingers agree that Israel's reputation in the world is the lowest it has ever been. Why drive it even lower? So, again: What is the plan?

You know, it would be nice if Jeffrey Goldberg would just stand up and say: "For my entire career I have been making excuses for Likud. And I am sorry. That conveyed to my readers a false idea of what was going on. That was a very bad thing to do."

UPDATE: And Goldberg finally comes through:

What If Israel Ceases to Be a Democracy?: Is it actually possible that one day Israelis -- Jewish Israelis -- would choose to give up democracy in order to maintain Israel's Jewish voting majority?... I believe it is premature to talk about the end of Israel as a democratic state -- mainly because the disposition of the West Bank is still undecided -- but I can't say that the thought hasn't crossed my mind.... [T]here's very little Israel's right-wing government has done in the past year or so to suggest that it is willing to wean itself from its addiction to West Bank settlements, and the expansion of settlements bodes ill for the creation of a Palestinian state -- and the absence of Palestinian statehood means that Israel will one day soon confront this crucial question concerning its democratic nature: Will it grant West Bank Arabs the right to vote, or will it deny them the vote? If it grants them the vote, this will be the end of Israel as a Jewish state; if it denies them the vote in perpetuity, it will cease to be a democratic state.

I will admit here that my assumption has usually been that Israelis, when they finally realize the choice before them (many have already, of course, but many more haven't, it seems), will choose democracy.... But I've had a couple of conversations this week with people, in Jerusalem and out of Jerusalem, that suggest to me that democracy is something less than a religious value for wide swaths of Israeli Jewish society... haredim... working-class religious Sephardim... represented in the Knesset by the obscurantist rabbis of... Shas... the settler movement... the million or so recent immigrants from Russia, who support, in distressing numbers, the Putin-like Avigdor Lieberman, Israel's foreign minister and leader of the "Israel is Our Home" party.

Let's just say, as a hypothetical, that one day in the near future, Prime Minister Lieberman's government (don't laugh, it's not funny) proposes a bill... to discourage Jews from selling their homes to Arabs... annexes swaths of the West Bank... announces summarily that the Arabs in the annexed territory are in fact citizens of Jordan, and can vote there.... What happens then? Do the courts come to the rescue? I hope so. Do the Israeli people come to the rescue? I'm not entirely sure. There are many Israelis who value democracy, but they might not possess the strength to fight. Does American Jewry come to the rescue? Well, most of American Jewry would be so disgusted by Israel's abandonment of democratic principles that I think the majority would simply write off Israel as a tragic, failed experiment.

Am I being apocalyptic? Yes. Am I exaggerating the depth of the problem? I certainly hope so. Israel is still a remarkably vibrant democracy, with a free press and an independent judiciary. But on the other hand, the Israel that I see today is not the Israel I was introduced to more than twenty years ago...

Meanwhile, Benjamin Wallace-Wells may have the best piece on Martin Peretz ever written. a short passage:

Peretz in Exile: The part of Israel that remains perfect to Martin Peretz is vanishingly small. But it does still exist, tangibly enough that you could trace its perimeter on a map of Tel Aviv: the ethnically mixed neighborhoods of Jaffa, the impeccably preserved Bauhaus downtown, the symphony halls and dance theaters, the intersections that still hold traffic, tense and honking, at 2:30 in the morning, the cosmopolitan sidewalk cafés that make real the old liberal dream. Peretz, the longtime owner and editor-in-chief of The New Republic, has been living here since October, and he reported recently that he has seen performances by the progressive dance company Pilobolus, the Cape Town Opera, and a Malian jazz group, which drew “a very hip crowd.” The sections of Tel Aviv he inhabits are so secular, Peretz says with relish, that in his first six weeks he saw exactly “eleven guys with Orthodox clothes. That’s it.”

Peretz is a fervent believer in Israel, but he always found the country a little small and so has often kept his trips short. Now he is here for seven months, teaching English writing to a class of eight 15-year-olds—immigrants, many of them, and poor. Peretz’s curriculum begins with autobiography, a kind of first enrollment in the intellectual traditions of the West: Amos Oz, full of the fractious heat of family life, then Charles Darwin, circumspect, exacting. Peretz has been particularly taken with a young girl from Congo, who spoke of her homeland’s “undisciplined” tyranny. The word caught Peretz’s attention, and he asked her what she meant. A disciplined tyranny, she said, would never have permitted the rapes and the wanton violence. Her father, a Christian pastor, brought the family to the Holy Land, an escape to something better. “That was kind of touching,” Peretz says, adding wonderingly: “She has younger siblings whose first language is Hebrew.” Peretz has this capacity for awe. He saw in her a more modern Israel; he saw something to defend....

“There are very many ways,” [Martin] Peretz admits, “in which Israel is getting worse.” The early leaders of Israel, he says, were all kibbutzniks and ascetics; now he sees a gaudy oligarchy, with twenty business groups, many of them built from single families, that control a quarter of the country’s large companies. When he visits Jerusalem—“a very poor city”—he notices ultra-Orthodox boys running everywhere, and he disdains the sanctimony of the very religious and the “superpatriotism” of the Russian immigrants. And yet set against these growing groups is only a tiny liberal society. Peretz participates now and then in a vigil in the East Jerusalem neighborhood Sheikh Jarrah, in solidarity with Palestinians threatened with eviction. The demonstration has drawn great attention in Israel, but there are at best 120 people there, he says. “Take away my friends, and there would be 115.”

But Peretz isn’t just defending a state, with its flaws. He is defending an idea, of Israel and of himself. “Marty regards himself as a watchman,” says Leon Wieseltier, the longtime literary editor of The New Republic, “one of the people who stands on the wall and makes sure nobody who intends to harm what he loves is approaching.”

On Israel, the watchtower has become a very lonely place—TheAtlantic’s Jeffrey Goldberg is on it with him, Peretz says, but there aren’t too many others. Even at The New Republic, there are only four people who Peretz believes really understand what is at stake in Israel: Franklin Foer, who has just departed as editor; Richard Just, who is now the magazine’s editor; Peretz; and Wieseltier. (“John Judis”—another, more left-wing writer—“knows zero”.) Among this small group, Peretz is closest to Wieseltier (“one of my two or three closest friends”), but he finds he no longer calls to talk to Wieseltier about Israel. “It always has to be more complicated with Leon,” Peretz says. “He always has to have this extra piece”...

The total crash of the communist and the new left projects pushed him, I think, in a very Burkean direction. I think he believes--not completely unreasonably--that the Enlightenment values of free debate, of fundamental equality, and of government as the servant of the general will of the people work only under the right historically-contingent circumstances. They work if they are underpinned by the appropriate cultural foundation. They don't if they are not.

What is this appropriate cultural foundation? You need to have a strong work ethic--so that the accepted mode of wealth acquisition is through diligence and industry rather than through politics. You need to have an almost-rabbinical tolerance of intellectual disagreement. You need to have on the one hand the willingness to accept the loss of a political argument. You need to have on the other hand the willingness to accept a less-than-total victory--the understanding that your defeated adversaries have the right to regroup, reorganize, rethink, reargue, and contest the points at issue again.

With that underlying foundation, the Enlightenment values of free speech and debate, of fundamental equality, and of government as the servant of the general will produce something precious, noble, and greatly to the benefit of humanity. Without that foundation, revolutionary, transformational, or even normal politics becomes too dangerous to be risked: you could wind up with a Josef Stalin, a Mao Zedong, or an Adolf Hitler; and the best you can hope for is an Anwar Sadat, or perhaps a Silvio Berlusconi. Without that foundation, you need either an enlightened despot--an "Akbar or a Charlemagne," as John Stuart Mill put it--or an enlightened oligarchy, each of which has a great deal to lose from chaos and is content with what it holds in the normal order of things. The attainable aim is then to attain Ibn Khaldun's government--the organization that prevents all injustice save that which it commits itself--and to hope that that government is satisfied so that it commits few injustices itself. Such a government will not be tolerant or democratic. But it will maintain order under the shelter of which people can cultivate their gardens.

Now this--which I take to be Marty Peretz's underlying world view--is not a crazy reading of the lessons of history.

Mark Thoma sends us to Richard Green who sends us to John Maynard Keynes.

Richard::

Richard's Real Estate and Urban Economics Blog: Keynes on the "Psychology of Society": My wife gave me a Kindle for Christmas. The first thing I should say is that it is really great: my eyesight isn't what it once was, and I find it very easy to read.. The second is that I will continue to buy books at Vroman's (a Pasadena bookstore), because I want them to stay in business. Third, I downloaded the Economic Consequences of the Peace, which I hadn't read in four or five years. It has a section early on that really struck me...

Maynard:

Europe was so organized socially and economically as to secure the maximum accumulation of capital. While there were some continuous improvements in the daily conditions of life of the mass of the population, Society was so framed to to throw a great part of the increased income into the control of the class least likely to consume it. The new rich of the 19th century were not brought up to large expenditures, and preferred the power which investment gave them to the pleasures of immediate consumption. In fact, it was precisely the inequality of the distribution of wealth which made possible those vast accumulations of fixed wealth and of capital improvements which distinguished that age from all others. Herein lay, in fact, the main justification of the Capitalist System. If the rich had spent their new wealth on their own enjoyments, the world long ago would have found such a regime intolerable. But like bees they saved and accumulated, not less to the advantage of the whole community because they themselves held narrower ends in prospect.

The immense accumulations of fixed capital which, to the great benefit of mankind, were built up during the half century before the war [WWI], could never have come about in a Society where wealth was divided equitably. The railways of the world, which that age built as a monument to posterity, were, not less than the Pyramids of Eqypt, the work of labor which was not free to consume in immediate enjoyment the full equivalent of its efforts.

Thus this remarkable system depended for its growth on a double bluff or deception. On the one hand the laboring classes accepted from ignorance or powerlessness, or were compelled, perusade or cajoled by custom, convention, authority, and the well-established order of Society into accepting a situation in which they could call their own very little of the cake that they and Nature and the capitalists were co-operating to produce. And on the other hand the capitalist classes were allowed to call the best part of the cake theirs and were theoretically free to consume it, on the tacit underlying condition that they consumed very little of it in practice...

Accessing the e-book revolution: In 1467, Peter Schöffer and Johann Fust published a translation of St Augustine’s The Art Of Preaching. They were old colleagues of Johannes Gutenberg, the pioneer of modern printing. But their true claim to fame is that they were the first commercially successful printers, and this success stemmed in part from their relentless innovation with the world’s newest communications technology: the book.

One such innovation appeared in the 1467 edition, which was the first printed book to include an alphabetical index. Schöffer and Fust were not only competing by releasing new titles. They were changing what it meant to use and read a book.

Some of the first book advertisements – and indeed some of the first modern adverts anywhere – talked up their “better arranged indexes” as a selling point. The publishers of the The Art of Preaching claimed that their indexes, along with other new cross-referencing features, were “alone worth the whole price, because they make it much easier to use”. The phrase sounds like it could be from an advert for some 21st-century gadget: “Our books aren’t just informative. They’re also user-friendly!” The echo of today’s marketing language is no accident. Thanks to a series of interrelated technologies – but especially the web, the Kindle and the iPad – we are living through a radical reinvention of the tools and techniques of reading.

One of the most thrilling digital developments of 2010 was the arms race between e-book readers.... Apple’s iPad itself stands out as the most significant breakthrough... does more than any device before to consolidate book reading and web browsing. I remember sitting down with the iPad when it arrived this spring, and thinking that for the past 15 years we had been surfing the web on the wrong kind of machine.... The difference between our time and Gutenberg’s is, of course, the rate of change. It took almost half a century for the alphabetical index to become a standard; Arabic page numbers were not adopted until the 1500s. There were feature wars in the new platform of the book, but salvos were fired only every 20 years.

It may have taken a long time, but when all those features coalesced into the system of citation, indices, page numbers, footnotes, bibliographies and cross-references that we now take for granted, they helped usher in the scientific revolutions of the modern age. Entire ways of interacting with information became possible because we had agreed on how to describe where the information lived and how to point people towards it....

Where links abound, a rich ecosystem of commentary, archiving, social sharing and scholarship usually develops because links make it far easier to build on and connect ideas from around the web. But right now, books exist outside this universe. There is no standardised way to link to a page of a digital book. Books contain the most carefully crafted and edited text that we have – truly the richest source of information in the world – and yet all that information remains unlinkable. Google works as well as it does because people find interesting information on the web and link to it; Google then prioritises pages that attract a disproportionate number of inbound links. But if you find a fascinating passage in a novel or a book of history, there is no standardised way to link to it, which means that the rest of the web cannot benefit from your discovery.

Fortunately, a solution to this problem exists, one that merely involves a commitment to use technology that already exists. Call it the mirror web. If you create digital information in any form, make a parallel version of that information that lives on the web.... [T]his technique needs to become a new convention. When publishers create apps without web mirroring, we should be quick to condemn them.... The most radical premise behind this idea of web mirroring, however, is that it should apply to digital books as well. In future, every page of every book should have a shadow version of itself that lives on the web....

Today there is a real danger that this art of linking to things – an art that dates back to Schöffer and Fust and beyond – will grow less and less relevant in an unconnected world of apps and e-books. But there is also an opportunity here. We could choose to become better at making connections, bringing together in a new way the two most transformative textual platforms of the modern age: the book and the web.

Rebounds Gone Wild – The Great Energy Challenge: Energy efficiency has become very popular in recent years. So much so that it’s becoming cool for the truly hip to hold it in disdain. Case in point: David Owen’s piece in this week’s New Yorker: “The Efficiency Dilemma.”... [H]e’s being contrary just for the sake of being contrary. I don’t want to make a habit of highlighting this type of work, and to do a thorough job of dismantling the piece would take more time and space than I have. But... I have a hard time letting such poor and frankly lazy reasoning pass without comment.... The focus of the article is something called the Jevons paradox (named after economist William Jevons), or the more common and more broadly defined “rebound effect.” In essence the rebound effect is the fact that as energy efficiency goes up, using energy consuming products becomes less expensive, which in turn leads us to consume more energy. Jevons’ claim was that this rebound effect would be so large that increasing energy efficiency would not decrease energy use....

To be clear, the rebound effect is real.... The problem with knowing how far to take things like this is ... the real world is complicated and trying to disentangle everything that’s going on is very difficult. Owen cleverly avoids this problem by not trying to disentangle anything.

One supposed example of the Jevons paradox that he points to in the article is air conditioning.... Owen notes that between 1993 and 2005 air conditioners in the U.S. increased in efficiency by 28% but by 2005,homes with air conditioning increased their consumption of energy for their air conditioners by 37%. Owens presents this as clear and obvious proof of a Jevons effect....

A few key facts disprove the point. Facts that are not hard to track down. I write for this blog in my spare time (for free), and I managed to find it without breaking a sweat. I’m not sure why a paid writer for a magazine like The New Yorker couldn’t do the same.... Real (inflation adjusted) per capita income increased by just over 30% over that time period. All else being equal, when people have more money, they buy more stuff, including cool air. The average size of new homes increased from 2,095 to 2,438 square feet, over 16%. More square feet means more area to cool and more energy needed to cool it. In 1993, of homes that had A.C., 38% only had room units while 62% had central air. By 2005, 75% of air conditioned homes had central units. Bigger units covering more rooms means more cool air and, you guessed it, more energy.... Finally, even though air conditioners were 28% more efficient in 2005 than in 1993, air conditioners last between 15 and 25 years....

Without the increases in efficiency, energy consumption would have been much higher.

Worse, and even more transparently wrong, Owen points to the increasing use of air conditioning in the developing world, especially India and China, as evidence of a globally expanding Jevons effect. Never mind the fact that income in China is growing something like three times as fast as in the U.S. and that the cost of air conditioning as a share of average incomes are falling at an even greater rate....

It’s easy to be sucked in by stories like the ones Owen tells. The rebound effect is real and it makes sense.... But it’s not enough to observe that energy use has gone up despite efficiency gains and conclude that the rebound effect makes efficiency efforts a waste of time...

Matthew Kahn:

Rebound Redux: Have we moved past Jevons on efficiency? – The Great Energy Challenge: In my undergraduate environmental economics class at UCLA, I ask my students to discuss whether buying a Prius could increase their gasoline consumption and thus increase their greenhouse gas production. David Owen would argue that it certainly could. Suppose that I used to drive a vehicle that achieved only 25 MPG. If gasoline is priced at $3 per gallon, then I used to pay 12 cents per mile of driving. If I now purchase a Prius that achieves 50 MPG, and gas prices continue to be $3 per gallon, then I will now pay a price of 6 cents per mile of driving. This 50% reduce in the price of driving is likely to encourage me to drive more. But, will my overall gasoline consumption actually rise? It only would if I respond to this reduction in the price per mile of driving by more than doubling my mileage. Why? Suppose I used to drive my 25 MPG vehicle 10,000 miles per year. I would need to buy 400 gallons of gasoline for this driving. If I now drive my Prius 25,000 miles per year (more than double) then indeed David Owen would be right as he would observe that my gasoline consumption has increased to 500 gallons per year. No empirical economist believes that the demand for driving is so responsive to this incentive effect.

In the case of car driving, remember that somebody has to drive the car! Suppose that you can drive at 30 miles per hour in your city. To drive 10,000 miles per year will require 333 of your precious hours. While to drive a Prius 25,000 miles would require over 800 hours. Remember that time is money! Suppose that for every hour you drive that you could have worked and earned a wage of $20 per hour. Will owning the Prius really increase your driving? A mile of driving a Prius costs you 6 cents of fuel and at 30 miles per hour costs you 2 minutes of time which valued at 33 cents a minute (20/60) equals 66 cents. So the total cost per mile is 72 cents. A mile of driving of your old MPG vehicle costs you 12 cents of fuel and 66 cents in lost time so the total cost is 78 cents. This reduction in total cost from 78 cents to 72 cents is tiny. As shown by this arithmetic, the "rebound effect" is swamped by the value of time....

Owens exaggerates the importance of the “rebound effect”. Recall that the rebound effect makes the counter-intuitive claim that increases in energy efficiency increase energy consumption. For products that require our time to use (such as driving) or for which we have limited demand (refrigerators), I do not believe that the rebound effect is an important issue....

My bottom line is that energy efficiency improvements will shrink our carbon footprint.

Europe’s Financial Alchemy by Luigi Zingales: It is universally recognized that a key factor underlying the 2007-2008 financial crisis was the diffusion of collateralized debt obligations (CDOs)... [T]he European Financial Stability Facility (EFSF), created by the eurozone countries last May, is the largest CDO ever created... the outcome could be similar: the entire banking system sent into a tailspin.

CDOs are a form of financial alchemy: special-purpose vehicles that buy the financial equivalent of lead (low-rated mortgaged-backed securities) and finance themselves mostly with the financial equivalent of gold (highly sought-after AAA bonds). This transformation is based on one sound principle and two shaky ones. The sound principle is excess collateral.... The first shaky principle is that if the return on these bonds is highly correlated... they all default at the same time.... The second shaky principle is that... issuers of CDOs relied on credit-rating agencies.... As a result, the CDO market did not so much spread risk as it shifted and hid it....

Europe is following a similar path. The EFSF, created to assist countries facing “illiquidity,” is designed exactly like a CDO. The EFSF buys the bonds of the countries which find it difficult to finance themselves in the marketplace (for example, Ireland) and issues bonds that are AAA rated. How is this alchemy possible? Once again... overcollateralization, an assumption on the joint distribution of possible outcomes, and the... approval of... credit rating agencies.

With the EFSF, the overcollateralization takes the form of guarantees by other eurozone countries. Among the major countries, however, only France and Germany have an AAA rating. How can a bond guaranteed in large part by countries such as Italy and Spain (likely candidates for a fiscal crisis) provide AAA status to Irish bonds?... [I]f the EFSF has to guarantee Spain, would Germany really be willing to step in and use its taxpayers’ money to cover Spanish banks’ losses?... [H]ow free are credit rating agencies to express their opinion on the very institutions that will regulate them?...

After the sub-prime mortgage crisis, politicians alleged that the market was short-sighted and irrational, and rushed to propose new regulations. While some of the criticism might have merit, what gives politicians the moral authority to criticize? After all, as the EFSF shows, their orientation can be more short term and irrational than the market’s, repeating the same mistakes because they seem not to have learned from them.

"How can a bond guaranteed in large part by countries such as Italy and Spain (likely candidates for a fiscal crisis) provide AAA status to Irish bonds?" The answer is that it cannot, and does not. The bond guarantee is offered by France and Germany: they are the countries that matter.

"If the EFSF has to guarantee Spain, would Germany really be willing to step in and use its taxpayers’ money to cover Spanish banks’ losses?" I agree that it is better for Germany not to offer a guarantee than for it to offer it and then to renege on it. But it is, of course, best of all for Germany to offer the guarantee and stand behind it.

"How free are credit rating agencies to express their opinion on the very institutions that will regulate them?" Not very. But why does this matter? The guarantee is AAA if Germany and France fulfill their pledges, and not if otherwise. You don't need a rating agency to tell you that.

"What gives politicians the moral authority to criticize [the markets]?" There is no rule saying that you have to have moral authority before you can criticize. Anybody can criticize. The important question to ask is never "does the critic have moral authority?" but rather "is the critic right?" In this case, the critics of the market are right.

If I understand Luigi's argument, it is that the EFSF should not have been started and should be wound up as soon as possible because the German government is making pledges that it will be unwilling to fulfill should push come to shove. It is not clear to me why he believes that to be the case--everything I have heard tells me that the German government does understand what its pledge to back the EFSF means, and does and will stand behind hit.

DeLong QOTD: Bookwealth, Then and Now « A (Budding) Sociologist’s Commonplace Book: I’m not sure how to understand DeLong’s claims about limited government being one possible reason for the takeoff in economic growth in the 1500. Government promised not to take your stuff? What about the enclosures? More broadly, while government respect for property rights may have increased, the governments of the 16th-19th century were hardly “limited” in the modern sense of not interfering directly with business. For one thing, these are the governments that legally created the modern corporation in the first place. The whole “limited government” concept is radically under-defined when you start thinking about all the subtle and indirect ways governments make economies possible. But again, I think the broader points DeLong are making are certainly onto something – I just worry about the casual usage of language from contemporary debates to describe a very different process and a very different world. And heck, DeLong suggests students take a “sociology of modernity” class, so that’s pretty cool.

Touché. Should have written: "government promised not to take your stuff if you were rich..."

It is a fact that Nationwide RomneyCare is the kind of policy that hits the sweet spot as far as the center of the American electorate is concerned.

Matthew Yglesias:

Yglesias » The Median Voter Supports The Affordable Care Act: We’ve seen this before, but today CNN has another poll (PDF) confirming that the Affordable Care Act’s conservative critics are a minority.... I’m not 100 percent sure if “not liberal enough” is the way I would describe the law. But you make the ACA better by making it more aggressive. That’s a public option, but it’s also more forceful implementation of the Independent Medicare Advisory Panel concept and a more aggressive phase-out of the tax subsidy for employer-provided health insurance.

Surely Cornell could find somebody less prone to major errors in argumentative logic than William Jacobson to teach in their clinical legal program?

Ta-Nehisi Coates:

It's Not That You're Racist...: ...It's that you're either ignorant or dishonest. Cornell Law Professor William A. Jacobson inveighing against Matt Yglesias:

Using the logic of Matthew Yglesias of Think Progress, who is having his 15 minutes of race card fame, anyone who expresses any measure of praise for the pre-1947 Yankees necessarily would be "expressing affection for a White Supremacist" organization. It would not matter that the praise was for the Yankees' baseball skills; any expression of anything less than complete condemnation of the Yankees necessarily evidences tolerance for racism because the Yankees were part of a racist system. That logic is what Yglesias uses against Haley Barbour because Barbour made a statement that when Barbour was growing up in the early 1960s in Yazoo City, Mississippi, the "Citizens Council" stood up to the Klan and was organized to keep the Klan out of Barbour's home town. That apparenly is a true statement, but because the Citizens Council also supported the system of segregation, Yglesias has accused Barbour of "expressing affection for the White Supremacist Citizens Council," and almost the entire nutroots blogsphere has picked up the meme that Barbour is a racist. Yet nothing Barbour said, or has done in his professional life, supports the charge that Barbour supported segregation himself, although if he were a Southern Democrat during the 1960s he almost certainly would have supported segregation...

I think it helps to be very clear....

Matt has accused Barbour of "expressing affection for the White Supremacist Citizens Council," and spurred the "nutroots blogsphere" (I assume that's basically left bloggers) to run with that and use it to argue that Haley Barbour is a racist.

Left bloggers who, like Matt, are claiming that Barbour is a racist are doing something "odious and evil."

Let's take the last point first--I think it would be generally odious and evil to accuse someone of racism without much evidence. I think there's quite a bit of evidence that Haley Barbour is shockingly ignorant of the history of his state, and of American history at large. In his office hangs the battle-flag of an Army raised solely to found a republic based on White Supremacy. This is not the politically correct sooth-saying of liberal historians. It's the reprehensible rantings of the very Confederates whom Haley Barbour honors....

I can agree that merely displaying the flag of a white supremacist Army, praising a group which opposed integration in the 1960s, and--at this very moment--is boycotting a Hollywood movie because for casting a black person as a Norse deity does not make one a racist. I guess I'd also agree that dressing in Nazi regalia and praising Pat Buchanan's writings on Jews doesn't, in itself, make you an anti-Semite. No one can know the contents of person's heart. But it does make you, as Matt charged, "dangerously ignorant."...

Jacobson never quotes Matt--or frankly anyone--charging that Barbour is a racist. That... leads us to the second point--that there is an outbreak of liberal bloggers claiming Barbour is a racist. A google search of "Barbour is a racist"... does not reveal a single liberal blog of real note making that case... [but rather] a raft of sites either arguing that Barbour isn't a racist, or arguing why it's not relevant. Unable to deal with the actual arguments made by Matt here, for instance, and evidently generally ignorant of the basic facts of American history, Jacobson simply strawmans and changes the subject....

Jacobson is a professor at one of the most prestigious institutions of higher learning in this country. I can't for the life of me imagine how someone rises to such heights and, evidently, never acquires an understanding of the rudiments of American history, nor an ethic of honest debate. It's true that universities are sprawling. But this is the kind of dissembling defense of public official who honors a white supremacist flag, and praises a white supremacist organization, is what you get out of a professor at Cornell, what real hope is there for cable news?

Where Do We Go from Here? : [D]espite warnings from many economists (ourselves included) that the stimulus package that resulted was much too small, Obama engaged in premature triumphalism. In February 2009, he said of the plan:

It is the right size, it is the right scope. Broadly speaking it has the right priorities to create jobs that will jump-start our economy and transform it for the twenty-first century.

The only thing missing was a “Mission Accomplished” banner.

Worse, the administration seemed unable to change its line once it became clear that the program was, in fact, inadequate. Progressives kept waiting for the moment when Obama would say something like “My predecessor left the economy in even worse shape than we realized—it’s time for further action.” That moment never came. Instead, officials kept insisting that the recovery was on track.... After the midterms, leading Democratic strategists blasted the administration for being tone-deaf: “A metaphor about a car in the ditch when people are in trouble and angry about the abuse of Wall Street, it’s just out of touch with what’s going on,” declared the pollster Stan Greenberg, while James Carville asked, “What were they thinking?” A better political strategy, said Carville, could have limited Democratic losses in the House to thirty seats, but the administration remained weirdly passive right through to election day.

The same passivity was visible on other fronts: the administration did nothing as its mortgage modification program degenerated into a subject of derision; it did nothing to address public anger over Wall Street bailouts; it dithered in the face of Chinese currency manipulation; it hesitated and prevaricated for weeks after the Gulf oil spill. The administration’s political strategy seemed to boil down to sitting around and waiting for the economy to improve.

Now the Republicans control the House and have effective blocking power in the Senate. And all indications are that they are ready and willing to use this position to deny the Obama administration any achievements it could point to in 2012.... Most telling of all is the recent furious, coordinated assault on Ben Bernanke and the Federal Reserve. Until that assault began, the possibility of “quantitative easing” (purchasing bonds in an attempt to reduce long-term interest rates) by the Fed had been widely viewed as the conservative alternative to fiscal stimulus. The Fed would take action to reduce interest rates and thereby promote private spending. As many have pointed out, the Fed’s current approach is very much in line with the policy prescriptions of Milton Friedman, the patron saint of conservative economics. Indeed, in 1998, when Japan was suffering economic difficulties very similar to those we face now, Friedman urged the Bank of Japan to adopt what amounted to a policy of quantitative easing. But when the Fed finally announced a modest program of quantitative easing on November 3, it was rocked back by outraged demands from Republicans—in the company of China and Germany, two countries that through their own economic policies are thwarting the global economic recovery in the Eurozone and the US—to immediately cease and desist. Moreover, key Republicans in both the Senate and the House demanded that the Fed abandon any effort to promote employment and limit its mandate to price stability. The budget expert Stan Collender, with a sharp sense of realpolitik, anticipated the Republican “scorched economy” strategy back in August: “Ben Bernanke may have painted a big bullseye on the Federal Reserve,” he wrote on his blog Capital Gains and Games. He went on to say:

The same political pressure that has brought fiscal policy to a standstill in Washington is very likely to be applied to the Fed if it decides to move forward. With Republican policymakers seeing economic hardship as the path to election glory this November, there is every reason to expect that the GOP will be equally as opposed to any actions taken by the Federal Reserve that would make the economy better, and that Republicans will openly and virulently criticize the Fed for even thinking about it. The criticism is likely to come both before any action is taken to try to stop it from happening and afterwards to make the Fed think twice about doing more. This will come in spite of the fact that, unlike fiscal policy changes, the actions the Fed is considering will not increase the budget deficit. The deficit has never really been the real issue; it has always been subterfuge and an easy and convenient way to build opposition to the White House’s efforts to deal with the economy.

Thus the Democrats must begin by facing up to the reality of an uphill struggle. The historic opportunity of 2008 has been squandered.... Democrats... can’t count on the economy to propel Obama to reelection—in part because Republicans, whatever they claim or actually believe, will do all they can to keep the economy depressed. Nor can they count on Obama himself to lead a comeback. In a dispiriting 60 Minutes interview given after the midterms, he actually seemed to accept Republican smears—blaming himself, not the GOP, for the failure to “maintain the kind of tone that says we can disagree without being disagreeable.” And it’s truly astonishing that as corporate profits hit new records despite mass unemployment, Obama apparently takes seriously accusations that his administration is antibusiness. Even if Obama were suddenly to find an inner FDR, would anyone notice? His aloofness has become so indelibly registered in voters’ minds that if he tried to change style—even if he wanted to, a big “if”—this would immediately come across as opportunistic...

The War to End All Wars Is Finally Over: In truth, the reparations, as the name suggests, were not intended as a punishment. They were meant to repair the damage done, mainly to Belgium and France, by the German invasion and subsequent four years of fighting. They would also help the Allies pay off huge loans they had taken to finance the war, mainly from the United States. At the Paris peace talks of 1919, President Woodrow Wilson was very clear that there should be no punitive fines on the losers, only legitimate costs. The other major statesmen in Paris, Prime Ministers David Lloyd George of Britain and Georges Clemenceau of France, reluctantly agreed, and Germany equally reluctantly signed the treaty...

John Maynard Keynes's view of the same:

: The subtlest sophisters and most hypocritical draftsmen were set to work, and produced many ingenious exercises which might have deceived for more than an hour a cleverer man than the President.... Instead of giving Danzig to Poland, the Treaty establishes Danzig as a "Free" City, but includes this "Free" City within the Polish Customs frontier, entrusts to Poland the control of the river and railway system, and provides that:

the Polish Government shall undertake the conduct of the foreign relations of the Free City of Danzig as well as the diplomatic protection of citizens of that city when abroad....

Such instances could be multiplied. The honest and intelligible purpose of French policy, to limit the population of Germany and weaken her economic system, is clothed, for the President's sake, in the august language of freedom and international equality.

But perhaps the most decisive moment, in the disintegration of the President's moral position and the clouding of his mind, was when at last, to the dismay of his advisers, he allowed himself to be persuaded that the expenditure of the Allied Governments on pensions and separation allowances could be fairly regarded as:

damage done to the civilian population of the Allied and Associated Powers by German aggression by land, by sea, and from the air

in a sense in which the other expenses of the war could not be so regarded. It was a long theological struggle in which, after the rejection of many different arguments, the President finally capitulated before a masterpiece of the sophist's art....

[T]he President was set. His arms and legs had been spliced by the surgeons to a certain posture, and they must be broken again before they could be altered. To his horror, Mr. Lloyd George, desiring at the last moment all the moderation he dared, discovered that he could not in five days persuade the President of error in what it had taken five months to prove to him to be just and right. After all, it was harder to de-bamboozle this old Presbyterian than it had been to bamboozle him...

McMillan could honorably write--and the Times could honorably publish--a piece arguing that Keynes's belief that reparations were in large part punitive was wrong. She cannot honorably write--and it cannot honorably publish--a piece that denies that there is an issue here.

Thank You For Taking the Midterm: Let me thank you all for taking next Monday's midterm. I know--it is way too early to be proper midterm. The problem is that I need it as an instructor reality-check device.

I stand up here and lecture at you. There are 620 of you. I cannot read your faces well enough to figure out what you are getting and what you are not. I have little clue right now whether my lectures are over most of your heads, or are mind-numbingly slow.

One reason that I lecture--even though I have little clue right now as to whether I am lecturing at the right pace--is that back in the Middle Ages a book cost the same share of average incomes as $50,000 is today. Look at a book. Think that if you were in the Middle Ages--well, you would probably be illiterate. If you were in the Middle Ages and were literate you would probably regard a book kind of like Southern Californians regard a BMW convertible. Students could not really afford books--at least, not many.

Suppose you were a student at the University of Naples in the 12th century. Suppose you owed student loans to the moneylender. Suppose you wanted to leave Naples--in order to go visit your parents in their manor near, say, Goslar. You could not--unless you first gave the moneylender your books to hold as a pledge. The idea was that your books were so valuable that you would repay your student loans if the moneylender had your books.

Come Gutenberg and the invention of printing books become cheap. The idea that teachers have to lecture because students cannot afford to buy all the books for the courses goes away. But still the very large lecture--a staple of education back in the days when the books were really, really expensive and what about the only way to get access to the book was for a group of you to get together and hear it read aloud--still continues. It continues for lots of reasons. But since it has lost its initial purpose as the only effective way that you can learn the words inside the textbook, it is important that our lectures be good. This means that I have to pitch them at the right level. This means that I have to figure out what you have learned. Hence this reality-check midterm, this early reality-check midterm. I really cannot stress enough that it is for my benefit, not yours. So I thank you all for taking it.

Before the Birth of Human Civilization: So, on to the economics of long-run growth.

When did we collectively invent agriculture? When was the Neolithic Revolution? When did we stop being very smart East African Plains Apes with stone tools and actually become civilized people--with fields and firms and domesticated animals and civilizations?

Figure that it happened soon after 10,000 BC.

Dating the invention of agriculture is important, because the invention in agriculture was one of the perhaps four major changes in human life worldwide, at least from an economic point of view. I claim that the first big change was when we learned how to make fire and stone tools. I claim the second was when we developed language: language allows for plannin,g and for collective action of scale much larger than otherwise possible. Otto von Bismarck said: "Fools learn from their own experience. I prefer to learn from other people's experience." Without language it is really difficult to learn from the experience of very many other people: you actually have to see Ogged poke a hornet's nest with a stick. With language it is easy: the cautionary tale of not to do what Ogged did to the hornet's nest can spread rapidly around the entire globe.

I claim that the third big change was the invention of agriculture.

What was human life like in the perhaps 50,000 years--perhaps more, but it is unlikely to be less--between the invention of language on the one hand and the discovery of agriculture? Those were the years when some of us decided to leave our original East African home and venture out across the Red Sea into Arabia, and then from there to pretty much everywhere else in the world (except for Antarctica) over the next 20,000 or 30,000 years?

For one thing, back before 10,000 BC we were pretty buff. Adult males were perhaps 5'8" on average. We were pretty strong too. We had high-exercise lifestyles. We were, however, short lived: life expectancy fracked. Infant mortality was high--babies are fragile things to drag around. And life was pretty dangerous: break a leg and your odds were not good at all; get an infected tusk gore and your odds were very bad.

Nevertheless, we rose in population numbers from perhaps 100,000 humans in 48,000 BC to perhaps 5,000,000 worldwide by 8000 BC. That is impressive: a population multiplication by a factor of 50,000 in what is on the evolutionary time scale a remarkably short time. Tell the biologists that a population multiplies 50-fold in 1600 generations and they will be impressed.

On the other hand, we can calculate growth rates. Take the natural log of 50--that is four. Divide that by 1600 generations--that is a population growth rate of 0.25% per generation. That is a population growth rate of 0.01% per year. Look across the average century between 48,000 BC and 8,000 BC: in the average century, for every 100 humans who were alive at the century's beginning there were 101 alive at the century's end.

Contrast that growth rate of 0.01% per year with the current human population growth rate of about 1% per year today, or the growth rate of 3% per year from natural increase alone seen during much of the nineteenth-century temperate-settlement pioneer experience.

That slow population growth rate tells us something pretty important about material standards of living. Think of the British colonist landing on the coast of North America after the plagues, the epidemics, and the wars had decimated the Amerindian population. The rule of thumb is that a healthy settled human population with low female literacy, no effective means of artificial birth control, and ample food doubles every generation. Figure ten pregnancies per potential mother eight of which survive to term six of which survive infancy four of whom reach adulthood. Between 48000 BC and 8000 BC, it wasn't 4 children surviving to adulthood per potential mother but rather 2.005. 1.995 adult children per potential mother that we would expect to see in a settled population with ample food simply do not survive.

That much excess mortality tells us that life was not just short--life expectancy at birth of 25 or so--but brutish. You lived the healthy life. You got lots of exercise hunting and gathering. But you watched perhaps three-quarters of your children die. But you did have pretty much all your teeth--hunters and gatherers had a low-carbohydrate zero refined sugar diet. That is what life was like between 48,000 BC and 8000 BC. You were physically relatively fit. But populations grew at only the most glacial pace--which means that the odds were good that the jaguar got ya.

The Agrarian Age: Now let us move on to the world of agriculture that starts in 8000 BC or so: the agrarian society where people figure out:

there are these grasses that have really big seeds

if we plant all these grasses right next to each other in a place that has a lot of water, then

if then we stick around for a while and drive off the birds before they eat the seeds

we will be able to get a lot of our nutrition from these really huge grass seeds--they are quite nourishing

and we won't have to rumble around our hundred square-mile foraging territory: we can just sit at home and each day gather some more grass seeds--especially if we figure out how to dry them so they will keep.

Nowadays we call these seeds by other names. We call them "wheat" "rice," "rye," "barley," "corn," and other things. They still contribute 75% of the calories that human beings eat--some of it in bizarrely-processed forms like the high-fructose corn syrup we drink. With the coming of agriculture your ability to get the calories to maintain your family goes way way up, and the necessity of roaming about the countryside looking for food goes the way way down. Thus you can start building permanent structures. You have much more time to start weaving plant fabrics together with turkey feathers and furs so you can have better clothes to wear.

Inventing agriculture seems like a no-brainer, right? You can build and live in a permanent house so you don’t get as wet. You can weave and stitch better clothes to wear so you don’t get as cold.

But when we dig up skeletons from 100 BC or so, we find that the adult males are not averaging 5'8" any more: they are averaging 5'2". Some people are taller--that Karl who was son of Pippin (called "the short") and of Bertha (called "greatfoot") appears to have been well over six feet tall. On the other hand, this was the guy whom Pope Leo III proclaimed Boss on Christmas Day of the year 800 AD:

Since the title of emperor had become extinct among the Greeks and a woman [Empress Irene] claimed the imperial authority [in the city of Constantinope]...

Pope Leo:

crowned [Karl] with a most precious crown. Then all the faithful Romans, seeing how [Karl] loved the holy Roman church and its vicar and how he defended them, cried out with one voice by the will of God and of St. Peter, the key-bearer of the Kingdom of Heaven, "To Karl, most pious Augustus, crowned by God, great and peace-loving emperor, life and victory." This was said three times before the sacred tomb of blessed Peter the Apostle, with the invocation of many saints, and he was instituted by all as emperor of the Romans. Thereupon, on that same day of the nativity of our Lord Jesus Christ, the most holy bishop and pontiff anointed his most excellent son Karl as king with holy oil...

You can bet that if there was food around, Karl got it--from infancy onward, and before that in utero, for you can bet that Bertha Greatfoot did not go hungry either. The lesson is that the upper classes were different--and with the coming of agriculture there are for the first time real upper classes. Most people after the invention of agriculture, look to have been quite short. Most people look to have been pretty much toothless and eating corn mash by the time they were 40--if they were alive. Everybody looks to have become a wonderful environment for human diseases: think of a bunch of people living together in a village, talking to each other, coughing at each other, drinking each other’s water--the bacteria love it and disease becomes a much bigger deal.

If your adult height is 5'2" for males or 4'11" for females, something has gone very wrong with respect to protein and calcium deprivation. If you were to feed your future children a diet that would make make the boys 5'2" at their adult height, California Child Protective Services would take your children away. But that appears to have been the kind of diet that most human beings seem to have had in the years between 8200 BC and, say, 1800 A.D.

There were, of course, exceptions. The biggest people that the anthropologists have are found so far are in fact the Sioux--the Lakota Indians of the American Great Plains. What is going on? By 1600 a bunch of tame horses imported into America by the Spanish Empire have escaped and run north. These are animals whose ancestors had been tamed and domesticated by humans for 3000. So the Souix can tame them. And all of a sudden the Sioux are no longer dragging their teepees and their other belongings behind them on human or dog-drawn travois as they follow the buffalo. They are riding horses--they can outrun the buffalo. It is, for them, a two-century paradise--until the railroads and the cavalry show up and want to replace the buffalos with cows behind barbed wire, and also want to mine the gold under the Black Hills. The Souix, not surprisingly object and make their objections strongly at places with names like "The Greasy Grass." But they are overwhelmingly outnumbered.

But the Sioux after the coming of the horse and before the coming of the railroad are exceptions. For most humans life is not only short and brutish, but nasty as well--protein and calcium deprivation and tooth decay and epidemic disease wreak their havoc.

Still, human populations grow. Maybe five million people in 8000 BC become 750 million people by 1800. A fifteen-fold multiplication in 10,000 years or 400 generations. That is a population growth rate of 1.25% per generation, or 0.05% per year--fully five times as fast as in the previous hunter-gatherer era. This is still a human population that is in toto close to the margin of "subsistence"--but not quite as close as in the hunter-gatherer age.

On the other hand, life appears to have been a lot less healthy in the biomedical sense. That calcium and protein deprivation hit your bones is obvious from the height of skeletons--and I shudder to think of what it did to your brains. Moreover, life is boring: you no longer have to roam around using your knowledge of plans--this is edible, this will this give me a rash, this will make me sick, this animal we might be able to catch, that animal is called a "grizzly bear" and it is time to run--but instead you do the same thing over and over again, ploughing, sowing, weeding, watering, harvesting, threshing, and so forth. Yesterday we transplanted rice seedlings all day. Today we are going to transplant rice seedlings. And tomorrow we get to transplant rice seedlings. The day after that we get to try to scare off the birds before they eat your rice. And because it is wet rice there are all these nice little worms that like to crawl up through your feet and then live inside you.

The stoop labor is not too good for your back either.

These are all things that lead UCLA professor Jared Diamond to say that the invention of agriculture was probably a mistake.

Yes we do have a lot more people in the world. The carrying capacity for the human race of a world with pre-industrial agriculture technology is about 750 million. That is a lot more than the five million carrying capacity of a world with hunter-gatherer technology. But for the overwhelming majority of the people you were illiterate peasants in the agrarian age, it was probably much more fun and much healthier being a hunter-gatherer back before 8000 BC than being protein-deprived, calcium-deprived, bored out of your skull, infested with hook worm, and suffering chronic plagues in the agrarian age.

The Population Explosion: Come 1500 or so there seems to be somewhat of a change. In the half-century starting in 1500 populations in America collapse: the Spanish land, bringing smallpox and a huge number of other diseases the Amerindians have never seen and have no immunity to with them. But everywhere else between 1500 and 1800 human populations appear to have grown by half--a population growth rate worldwide averaging 0.15% per year, three times as fast as in the previous agrarian age proper.

And since 1800 things have been very different indeed. From 1800 to 1900 our population grew at 0.7% per year. From 1900 to today our population grew at 1.5% per year. There are now nearly seven billion of us on the planet. At the moment we are hoping that the spread of birth control, female literacy, and wealth--together with the fact that while most literate women with opportunities to work outside the home want and are extremely happy to have one or two children, rather few want to have four or more--means that our global population will top out at a peak of ten billion come 2050. But if it does not--if human populations keep growing at 1.5% per year so that by 2100 we have 28 billion and by 2200 we have 127 billion people on the globe, our great-grand children's lives will become very interesting indeed, and not in a way that is likely to be good.

Making Sense of the Pattern: How do we read this broad pattern of human demography? Why were average standards of living so close to "subsistence" for so long? And why are they so different today?

The way to think about humanity once people get the bright idea of agriculture and settlement--and so for the first time it becomes really easy not to forget technologies when the people who invented them die--is more or less like this:

Once we have agriculture and settlement, it becomes rare that human knowledge is lost. You have to look hard for cases--the Dorian Dark Age after the Trojan War in the Aegean, the fall of the Roman Empire in the west--to find them. And human knowledge does improve. Sometimes the improvements are remarkable and marvelous. Between the Tang and the Sung dynasties humans develop via selective breeding strains of rice that allow for double- and then triple-cropping each year. Before 800 AD or so Southern China and Southeast Asia were not very advantageous places to live. It was hard to grow enough food to support a substantial population. But with the coming of multiple-crop wet-rice strains, things change. And so people move from the largely wheat-growing Yellow River valley south, to where a family with a relatively small wet-rice farm can eat their fill. By 1200 there are 50 million people living in and south of the Yangtze in the rice bowl that is southern China.

That is why the history of China before 1000 is a history of northern dynasties and populations--Chin, Han, Tang--while the history of China after 1000 is primarily a history of southern populations--and the capital stays in the north, when it does, to keep an eye on the Mongols.

It is a wonderful thing to develop triple-crop strains of rice. It is a significant technological improvement. It all by itself allows the world population to grow by ten percent or so in the years before 1500--and still feed the 10% higher population at the same standard of living that the lower population had had in 1000.

But such impressive inventions and innovations really are a once-in-two-hundred-years thing. And because such innovations come only once every two centuries, the fact that better-fed people with stronger immune systems have more children meant that human populations expanded and so living standards fell back to "subsistence" rather than having improvements in living standards cumulate. Before 1500 human technological inventiveness tended to produce not better-fed people or richer people, but (save for the upper class) only more people. Figure 0.01% per year as a rough yardstick measure of the pace at which human technological capacity grew.

Since the Industrial Revolution: Today things are very different. Right now the worldwide rate of growth of human technological capabilities looks to be not 0.01% per year but rather 2% per year. This iPad could not have existed ten years ago. It cost something like $500 last April. It will cost $250 next April--when its successor is released. These days we get as much technological progress in a single year as our agrarian society ancestors would get in two centuries. Then it would be a really big deal when you finally figured out a way to attach a horse to a cart in such a way that the weight of the cart was on its shoulders rather than on its neck. It took until 750 AD before people out a plough that was actually any good for ploughing Northern European soils.

Back in the agrarian age each year saw on average one-two thousandth more stuff produced than the previous year. In the 1500-1800 commercial revolution early modern period each year saw on average one-two hundredth more stuff produced than the previous year. The first century of the industrial revolution era--1800-1900--saw perhaps one-seventieth more stuff produced each year than the previous year. But today world global GDP is growing by about one-thirtieth every year. What we humans produce is right now doubling every generation, and has reached a level of about $7000 per person per year.

Now this $7000 bucks per person per year of stuff is not distributed evenly. We have say greater than san Francisco--in which the average material standard of living is close to $50,000 bucks per person per year.We have Somalia where, in a good year, the standard of living is $500 per person per year.

We had in 1968 the most unequal world that humanity had ever seen--or at least humanity had ever seen when some groups of Eastern Africa Plains Apes had developed language and others had not. But there are very good reasons to hope that the world will draw closer together in the future as it has during the past generation and a half. And I think that in the long perspective the most extraordinary thing our great grandchildren will remember about the two past centuries will not be the fact the world has become so unequal but rather that it has become so remarkably rich relative to our past.

Think of it: we had nearly 10,000 years during which humanity was closed to a subsistence agriculture standard of living--a bowl of millet and a bowl of rice every day, maybe a chicken egg once a week, maybe a chicken once a month, and whatever greens you can gather.That was how most people lived most of the time between the invention of agriculture and the industrial revolution.

Our Wealth: Alexander the Great, King of Macedon, conqueror of the Persian Empire, Lord of Asia--the guy who led his soldiers all the way from Greece to Punjab. (At Punjab he turned back because his veteran soldiers started asking him: "just why the frack are we still doing this? I understand revenging the defeats suffered by our ancestors. I understand that Babylon would be a nice push place to live. But here we are by the Jhelum River. Do you really want us to go further? Why?)

Alexander the Great owned two books--the Iliad and the Odyssey. Alexander the Great carried them with him in a gold chest. The books were worth more than the chest.

I, by comparison, have here in this iPad 20000 books instantly accessible for the price of ten steak dinners. And when Google Books becomes properly online I will have access to millions of books. Alexander the Great thought his books were among the most precious things he owned. In book-wealth, I outstrip him by a factor of ten thousand--and will soon outstrip him by a factor of millions.

Back, say, 500 years before Alexander the Great, suppose you wanted a high-status career path. If you were athletic and noble-born you could be a king--even king of a small territory would do because it would give you some armed retainers at your back to help you sack cities. Think Agamemnon son of Atreos, or Akhilleus son of Peleos, or Odysseus son of Laertes. But suppose you weren't a king. Then the best upwardly-mobile career path available to you would probably be to learn how to chant the Odyssey. That would make you a good person to have around in the cold winter nights, and on the warm summer nights too. It could get you a place at the table and a warm place to sleep. Telling the story of the adventures and the homecoming of Odysseus was an economically-valuable service that you could perform:

"What ails you, Polyphemus," said they, '"that you make such a noise,
breaking the stillness of the night, and preventing us from being
able to sleep? Surely no man is carrying off your sheep? Surely no
man is trying to kill you either by fraud or by force?

But Polyphemus shouted to them from inside the cave,
"Noman is killing me by fraud! Noman is killing me by force!"

"Then," said they, "if no man is attacking you, you must be ill;
when Jove makes people ill, there is no help for it, and you had better
pray to your father Neptune."

Then they went away, and I laughed inwardly at the success of my clever stratagem...

But if someone comes up to you today and says: "I know how to chant the Odyssey--and I am going to use this skill to get a high-paying job," we try to let them down gently. We point out that people can buy the audiobook of Ian McKellen chanting the Odyssey for $26.37. We point out that people can buy the Kindle version of Robert Fagles's translation for $12.99--and can download Alexander Pope's translation for free.

Things that would have been regarded in the recent past as valuable and important skills--well, today we are so rich we really don’t notice them at all. That is the change that the industrial revolution. has made.

Why the Industrial Revolution?: Thus the big historical question is: what happened after 1800, and even more so after 1900, that made what we call the industrial revolution? It is the fourth of the big changes in how humanity has lived--along with the invention of agriculture, the development of language, and the invention of stone tools and of fire.

The answer to "what happened" is not "the market economy happened.: Ancient Greece had the market economy. Sung China had the market economy. Neither had the explosion of the economic growth we have seen.

The answer might be "limited government." After 1500, for the first time ever, we have governments that are able to promise that they won’t steal your stuff when they feel like it and to actually carry through on those promises. Before 1500 if had stuff and if you wanted to keep it, the only way to be sure you could do so was to rapidly become part of the government and focus all your attention on keeping yourself part of the government. Government is, as the great Arab historian Ibn Khaldun liked to say, an organization that prevents all injustice except for that it commits itself. A limited government is a government that binds itself not to commit (much) injustice. Under such a government people can turn their attention to other things. For example, Steve Jobs in Cupertino can turn his attention away from lobbying the government and doing favors to politicians so that they don't steal his stuff, and instead turn his attention to terrorizing the engineers of Apple Computer and otherwise motivating them to produce the best possible successor device next April to this iPad I hold before you.

Some of the answer might be "the Columbian exchange." Starting in 1500 all of a sudden humans start moving all kinds of useful plants across the world--transfer the rubber plant from Brazil to Malaysia, transplant the coffee plant from Ethiopia to Java and from Java to Brazil, transplant the hot Mexican pepper to Sichuan, transplant the Peruvian potato pretty much everywhere. That may have given humans enough of an edge above subsistence to allow them to turn more attention to invention and innovation rather than just trying to keep their heads above water.

It is interesting. We look across the dividing lines of 1500 or 1800 in practically every field of human excellence, and our predecessors speak to us. We still listen to the music of Pachelbel. We still study the orations or some of us study the orations of Cicero. We still examine the campaigns and battles of Julius Caesar and Alexander the Great. We still admire the statues of Michelangelo. Poets, generals, politicians, musicians, sculptors, playwrights, artists--we don’t seem to have much more on the ball than they did, even though there are a lot more of us today and you would expect the law of large numbers to produce more excellence today than in the past.

But the economy is different. Wherever we turn in the economy, we find that the organizations we have have literally nothing to learn from anybody in the past.

So what happened to produce this divide is the big historical question. Because this is a principles of economics class and not an economic history class we are not going to answer them. I recommend that you take a global economic history or a sociology of modernity class. But I don't have time here to cover these issues. Thus next time we are going to talk about not why the industrial revolution occurred, but rather how economies have grown since the industrial revolution.

Gapminder.com: Let me close by cutting and pasting from the gapminder.com website which has a bunch of very nicely represented data series on levels of prosperity and standards of living in different countries since 1800 along the horizontal axis and life expectancy at birth along the vertical axis. It shows us how the world was in the 1800, when the great mass of human standard of living is something between $200 and $1000 per capita per year (with China being the big red ball in the middle, and with the United States and the United Kingdom the industrializing societies out there on the prosperous edge).

Fast forward to 1968. A whole bunch of countries, mostly in Africa, look very much like they looked back in 1800 with respect to income--but everybody looks much better with respect to public health and life expectancy.

Since 1968 the world has continued to grow and has become a much, much more equal place. The reduction in inequality stems from the fact the big red ball (China) and the big blue ball (India) have joined the upward merge of prosperity bigtime. It is not so much that the universe of countries have been doing different since 1968. It is that two countries have been doing different since 1968: together they are a third of the human race.

THE CORONATION OF CHARLEMAGNE: Since the title of emperor had become extinct among the Greeks and a woman (Empress Irene) claimed the imperial authority, it seemed to Pope Leo and to all the holy fathers who were present at the council and to the rest of the Christian people that Charles, king of the Franks, ought to be named emperor, for he held Rome itself where the Caesars were always accustomed to reside and also other cities in Italy, Gaul and Germany. Since almighty God had put all these places in his power it seemed fitting to them that, with the help of God, and in accordance with the request of all the Christian people, he should hold this title. King Charles did not wish to refuse their petition, and, humbly submitting himself to God and to the petition of all the Christian priests and people, he accepted the title of emperor on the day of the Nativity of our Lord Jesus Christ and was consecrated by Pope Leo.

Vita Leonis III (795-816)

On the day of the Nativity of our Lord Jesus Christ all [who had been present at the council] came together again in the same basilica of blessed Peter the apostle. And then the venerable and holy pontiff, with his own hands, crowned [Charles] with a most precious crown. Then all the faithful Romans, seeing how he loved the holy Roman church and its vicar and how he defended them, cried out with one voice by the will of God and of St. Peter, the key-bearer of the kingdom of heaven:

To Charles, most pious Augustus, crowned by God, great and peace-loving emperor, life and victory.

This was said three times before the sacred tomb of blessed Peter the apostle, with the invocation of many saints, and he was instituted by all as emperor of the Romans. Thereupon, on that same day of the nativity of our Lord Jesus Christ, the most holy bishop and pontiff anointed his most excellent son Charles as king with holy oil.

The "Done Something" Congress - ProfessorBainbridge.com: The Democrats are celebrating the accomplishments of the current lame duck sessiopn of Congress. It's a sad commentary on American politics that major policy changes are most easily made post-election by relying on the unaccountable votes of a bunch of retired and fired legislators. It certainly makes a mockery of the idea that elections are a mechanism of accountability. It's time to revisit the 20th Amendment to slash the time between the election and the start of a new Congress and more generally ban lame duck sessions.

What is he talking about?

I think he is talking about four bills that the Congress passed in December: START, DADT, 911-Responders'-Health, and the big tax stimulus. But I am not sure.

Why not?

Because none of them fits his claim that they were passed by "the unaccountable votes of a bunch of retired and fired legislators."

They don't?

No. 911-Responders'-Health had such broad approval that it was passed on a voice vote--those opposed to it did not want to go on record as doing so, or put those in favor on record as supporting it. The big tax stimulus--which I do not like, as another step on the road to budget ruin--passed 81-19. START passed with the Republican votes of newly-elected Senator Murkowski, continuing Senator Snowe, continuing Senator Lugar, continuing Senator Johanns, newly-reelected Senator Isakson, continuing Senator Corker, continuing Senator Collins, continuing Senator Cochrane, newly-elected Senator Brown, continuing Senator Alexander, retiring Senator Gregg, and retiring Senator Voinovich. And DADT passed with the votes of Republican senators Brown (newly elected), Burr (newly reelected), Collins (continuing), Corker (continuing), Ensign (continuing), Kirk (newly elected), Murkowski (newly elected), Snowe (continuing), and Voinovich (retiring). None of those four patterns are patterns in which the decisive votes are cast by senators whom constituents have rejected spitting in the voters' eyes.

But then why were all these big bills passed after the election, during the lame duck session?

Because Mitch McConnell asked all Republican senators to please block everything before the election, so that Obama and the Democrats could not claim to have any legislative victories.

After the election--well, it is two years to the next election, so there is no serious objection to actually doing some legislating.

So you are saying that DADT, 911-Responders'-Health, START, and the tax stimulus would have passed well before the election were it not for the Republican senators' willingness to play political hardball?

Yep. That's not the case for the tax stimulus--it could not have passed before the election because the Democrats were holding out for a better deal. But for the other three, certainly.

So they are not bills where the decisive votes were cast by an unaccountable bunch of retired and fired legislators?

Nope.

So it does not make a mockery of the idea that elections are a mechanism of accountability?

Nope.

So why does Professor Bainbridge claim what he claims?

I genuinely don't know. Those of his UCLA colleagues that I have talked to are puzzled as well.

Two Dreams, One Dead - Swampland - TIME.com: The Senate today passed the repeal of "Don't Ask, Don't Tell," which is a good thing. It did not pass the "Dream Act," which is a cold, cold abomination. There is a relationship between the two. Repealing "Don't Ask, Don't Tell" will allow homosexuals--who have fought honorably in every one of America's wars--to serve openly. Blocking the "Dream Act" means that young immigrants, who were brought here illegally by their parents, will not be able to gain citizenship by completing college or by serving in the military.... [L]et us focus for a moment on the "Dream Act," a vote of staggering cynicism and ugliness on the part of most Republicans and five morally-deficient Democrats. Two of the original sponsors, John McCain and Orrin Hatch, voted against the bill... and one wonders why, especially in McCain's case, given the fact that he recently won reelection and doesn't have to pretend to be a troglodyte anymore. McCain has professed himself all misty and honored in the past when he attended ceremonies in which green-card holders and other non-citizens achieved citizenship.... [T]his flagrantly cynical and cowardly politician would deny... status to young people who--through no fault of their own--were brought to this country as children, grew up as Americans and love the country enough to serve it. If the Dream Act were passed, we would have gained an estimated 65,000 valuable, patriotic and productive citizens--college graduates, military service-members--each year. We could use them....

McCain distinguished himself doubly this weekend, opposing the Dream Act and leading the opposition to "Don't Ask," despite the very public positions of his wife and daughter....

I used to know a different John McCain, the guy who proposed comprehensive immigration reform with Ted Kennedy, the guy--a conservative, to be sure, but an honorable one--who refused to indulge in the hateful strictures of his party's extremists. His public fall has been spectacular.... He's a bitter man now, who can barely tolerate the fact that he lost to Barack Obama. But he lost for an obvious reason: his campaign proved him to be puerile and feckless, a politician who panicked when the heat was on during the financial collapse, a trigger-happy gambler who chose an incompetent for his vice president. He has made quite a show ever since of demonstrating his petulance and lack of grace.

The Dynamics of the Debt-to-GDP Ratio: Last time we talked about fiscal stability and about the danger that the government's promises would unravel completely--that you would wind up in some "Mad Max Beyond Thunderdome" scenario in which nobody trusts the government and its monetary system. We saw that happen in the past decade in Zimbabwe.

Last week, however, I skipped over one part of the analysis of the sustainability of government deficits: the debt equation, the equation for how to calculate what's happening to a country's debt-to-GDP ratio, the ratio of government debt D to annual GDP Y.

(D/Y)t = (1 + (r-g))(D/Y)t-1 + d

Here is how you think about it: You take the previous year's debt-to-GDP ratio; (D/Y)t-1. Start by noting that if nothing changes the debt the next year will be the same as the debt this year--that is the "1" in the debt equation. Plus you have got to pay this year's interest on last year's debt. That is the "r" in the debt equation. But even if the debt is growing the debt-to-GDP ratio will be shrinking if the economy is growing faster than the debt, so you have to include a term for the percentage rate of growth of GDP: that is the "g" in the debt equation. Even a rapidly-growing debt is perfectly consistent with a stable debt-to-GDP ratio if the economy is growing rapidly too. For it is not what is happening to the debt but rather what is happening to the debt-to-GDP ratio that determines whether a government's promises to pay back its debt are going to be credible or not. Last you have to add in this year's primary deficit: the excess of spending on programs over revenues. That is the lower-case "d" in the debt equation.

The deficit reported in newspaper headlines around the country is not the primary but the total deficit. Why do I focus, instead, on the primary deficit? Two reasons. First, the primary deficit is what the arithmetic wants: it is the primary deficit that shows up in the debt equation. Second, the government controls the primary deficit. It does not get to choose what the interest rate on government debt is: the market gets to choose that. The primary deficit is the quantity that government policy controls.

Now let us ask our debt equation a question: what must be the case for the debt-to-GDP ratio to be stable? What must be happening if this year's debt-to-GDP ratio is the same as last year's? To see the answer, we expand our equation out:

(D/Y)t = (D/Y)t-1 + r(D/Y)t-1 -g(D/Y)t-1 + d

We set (D/Y)t equal to (D/Y)t-1 and cancel terms:

0 = r(D/Y)t-1 -g(D/Y)t-1 + d

We move the lower-case "d" to the left-hand side:

-d = r(D/Y)t-1 -g(D/Y)t-1

And we divide through:

-d/(r - g) = (D/Y)t-1

And let us denote this stable value of the debt-to-GDP ratio by a star:

-d/(r - g) = (D/Y)*

This is our answer: You take that level of the primary deficit. You attach a minus sign to it. You then divide it by the difference between the interest rate on government debt and the growth rate of the economy. That tells you where the debt-to-GDP ratio can balance.

The first lesson to get from this final equation is that if g > r you do not have a problem: if g > r your debt-to-GDP ratio is heading for zero if you are running a primary surplus--if d is less than zero--and is headed for some well-defined and stable number if you are running a primary deficit.

But what if--as is more likely--r is greater than g? The a stable long-run debt-to-GDP ratio requires that you run a steady primary surplus. And if your primary surplus gets too small---if when divided by r - g it is less than your current debt-to-GDP ratio, you are in big trouble: your debt-to-GDP ratio is then primed to grow without bound. If you don’t want to want primary surpluses or run a large enough primary surplus--well, either people believe that policies are about to change and you are about to start running a large-enough primary surplus, or you are headed for the Mad Max scenario.

At the moment in the U.S. r is less than g. This debt equation thus tells that there is not any big problem now. The government can run a primary deficit and then over time the economy will grow faster than the interest rate and so even a big deficit now will gradually shrink over time as a share of GDP so that in the long run will be able to pay it off without much trouble.

Does that mean we should not worry about the government deficits the United States is now running? No. r is less than g now, but it would be very foolish to believe that r will be less than g over the long run.

This ends the piece of last week's lecture that I did not have time for.

The Government Budget and "Depression Economics": Now let us move on to the government budget in the less-than-long run. We already covered situations of "depression economics." In situations of "depression economics," boosting government spending puts cyclically-unemployed people to work directly and also increases the supply of safe savings vehicles that people can hold. Thus it has a direct and may have an indirect stimulative effect--if the cause of the downturn is not a shortage of money per se but rather a shortage of bonds or a shortage of safe assets. There is a presumption in situations of "depression economics" that the government should spend more and tax less in the short term.

The Government Budget at Other Times": Suppose, however, that we are not in a situation of "depression economics." And suppose that there are no worries that the government will not pay back its debts in the long run. We still have an unanalyzed question: what happens in the medium run if the government runs a larger or a smaller deficit?

We are going to assume the level of production and employment in the economy is pretty much equal to the economy's productive capacity, that real GDP Y is equal to potential output Y*. Remember that back in our income-and-spending framework we had GDP Y divided into four components: consumption spending by households C, plus investment spending by businesses I, plus government purchases G, plus the balancing net exports term.

Y = C + I + G + NX

And remember our consumption function: a part of consumption that depended on the confidence consumers had about the future and a part that depended on their incomes today:

C = c(0) + c(y)Y.

We can substitute our little consumption function in for C in our income-and-spending equation and we can replace the level of GDP Y by potential output Y* to get:

Y* = c(0) + c(y)Y* + I + G + NX

We can move all terms with Y* to the left and group them:

(1 - c(y))Y* = c(0) + I + G + NX

The potential output of the economy multiplied by the marginal propensity to save, by the difference between one and the marginal propensity to save--that is going to be equal to investment spending, plus government purchases, plus next exports plus that part of consumption spending that depends on household confidence.

The reason to do this algebra is that when we look at this equation, we notice that--unless we are in a "depression economics" situation--the left-hand side is going to be very close to a fixed number. The level of potential output Y* is not going to change quickly by much. Neither is the marginal propensity to consume.

This tells us that if government purchases go up and G rises--or if tax cuts make consumers feel flush and boost c(0)--then investment spending I or net exports NX or both are going to go down.

Do we like having investment spending and net exports go down? Investment spending is one of our major sources of economic growth, and we like economic growth. Diminish the amount that the economy is devoting to adding to its capital stock and you're going to diminish its rate of economic growth and make the future poorer. We probably do not want to do that. If net exports go down--if they turn large and negative--then we owe a bunch of money to people in foreign countries. When we pay that money back it will diminish our wealth. Large external foreign debts have been a common source of financial crises and episodes of depression economics over the past two centuries. Moreover, we do think that it is important for economic growth to maintain a certain productive capabilities inside the United States. We like having Applied Materials located in Silicon Valley: it is a major source of technological innovation, and if you have technological innovation in one place that tends to make for a whole bunch more technological innovation around that and makes everyone in the whole region if not the country richer. There are powerful external benefits from being at the forefront of technological progress

Crowding Out: Our conclusion that government spending crowds out investment and net exports, however, is just math. The math tells us that if government purchases go up and if we are not in a depression economics situation then you can bet that net exports and investment spending have to go down.

But that math does not really tell us why this happens. That is the problem with mathematical arguments in economics. They get you to a place. Often they get you to the right place. But you do not understand how or why you got there, or what it means.

So how is it that when government purchases rise--and when we are not in a depression economics situation--investment spending or net exports or both fall?

Government purchases rise. The government is thus running a larger budget deficit. The government must issue more bonds in order to raise the financing to pay for its extra spending. And as the government issues more bonds, bond prices fall: it is supply and demand.

When bond prices go down, interest rates go up. That is accounting. That is what a high interest rate means: that you can purchase a bond cheaply and thus get a lot of interest payments in return for your initial outlay.

When interest rates go up, foreigners take a look at the potential profits from investing in the United States. More foreigners who had just sold us imports decide that they don’t want to buy American exports but instead they want to buy United States bonds to get the high interest rates those bonds pay. Thus their spending on U.S. exports drops, and net exports falls.

Alternatively, businesses thinking of issuing their own bonds to finance investment projects take a look at the low prices they would have to accept to sell their bonds given the low prices of Treasury bonds--a substitute investment. They decide that given the high interest payments they would have to incur, it is not worth undertaking their investment projects, and so investment spending falls.

So the conclusion; if we don’t want investment spending or net exports to fall when government purchases rise--in this scenario in which there is no depression economics and in which there is no fear of lack of credibility in the government's promises, at least--we would need to do something to consumer confidence. We need to do something to c(0) so that its decline would offset the expansion of government purchases G.

How do you diminish The parameter c zero? You need to make households feel poor and so want to spend less. What measures can the government take to make households feel poor and want to spend less? Increasing taxes. Increase taxes and, yes. indeed people have less money because their paycheck goes down. This tends to disturb them: they tend to feel poor. Congratulations! you have raised government purchases without diminishing investments spending or net exports. That is a big win on the macroeconomic balance sheet.

However, it is also likely to be a big loss on the political balance sheet if you are a politician. Voters do not like governments that make them feel poor. Hence politicians really do not love to increase taxes.

Nevertheless, if we want to stay far away from Mad Max-like scenarios--and we do--we do have to do the tax increases. As Milton Friedman liked to say: "to spend is to tax." Once you have decided to spend you have also then decided to tax. You can then tax stupidly or you can tax smartly, but to complain about the taxes once you have done the spending--well that is just stupid. And if you tax smartly, and balance your spending increases with tax increases, you can avoid the falls in investment and net exports that slow economic growth that happen if you tax stupidly.

Dysfunctional America: Alas! America today seems prone to tax stupidly. You can postpone taxes until later. Postpone them until the next presidential administration, or until you have retired from Congress or become a lobbyist and are happily riding around in your limousine. Then it is your successor sitting in the seat who has to take the blame.

And indeed there can be good reasons to postpone tax increases: remember our discussion of depression economics that a cyclical deficit is a good thing to have when unemployment is high.

But if we're not in depression economics, postponing our tax increases is likely to be a bad idea.

Five Rules for Public Finance: And so now we have arrived at five rules for public finance:

(1) The government must do whatever is necessary in order to make sure that people have confidence it will pay back its debts.

(2) You really ought to have budget balance over the business cycle. It is fine to run cyclical deficits in times of high unemployment, but you really should balance them with surpluses when the economy is in a boom.

(3) That implies Milton Friedman's Pay-as-You-Go principle that he set out in his late 1940s framework for fiscal and monetary stability: whenever the government takes on a mission to do some long term spending program, it also needs to match that by imposing some tax large enough to fund the spending. Changes in government spending plans over time should be accompanied by changes in taxes so that when politicians make decisions and when voters evaluate politicians there is no gaming the system.

(4) You need to keep plenty of headroom in your debt capacity in normal times. In normal times you should aim to keep your debt-to-GDP ratio fairly low. There will come emergencies and opportunities during which you will want to increase your debt-to-GDP ratio. Remember 1803: Thomas Jefferson was president and Napoleon I was about to become Emperor and was willing to sell French "rights" to the entire Louisiana territory. The United States had plenty of debt capacity and could easily afford to borrow--and Jefferson did. Thus we have a United States that doesn’t end at the Mississippi river but instead continues all the way on from the Atlantic to the Pacific Coast. The War of 1812, Civil War, World War I, World War II--in all of them we were very grateful that we started with a low national debt-to-GDP ratio. The government wanted to fight these wars for reasons that it thought were sufficient. It was able to borrow in order to build the armies and navies and air forces to fight them, It could not have done that if the debt to GDP ratio was really high. The Great Depression and the current Great Recession--we want to respond to them by deficit spending as well.

And then there are the other foreign policy missions: after World War II--even though we'd already run up a large debt during World War II--we decided it was to the world's advantage to undertake a remarkably large aid program to Western Europe to help rebuild it under the three headings of the UNRRP, the United Nations Relief and Rehabilitation Program; the MSA, Mutual Security Assistance, and the ERP, the European Recovery Program better known as the Marshall Plan. (Who, you ask, was Marshall? Wasn't Truman the president? Yes, the president was Truman. George Marshall was the ex-general who was the Secretary of State. Truman decided to call it the Marshall Plan: "Can you imagine how low its chances of passage would be in an election year with a Republican majority Congress would be if we called it th Truman plan?" he said. Smart man, President Truman.)

One more digression. Most of you were... barely born when the Cold War came to an end at the start of the 1990s. I remember a whole bunch of us economists--besides me I remember Barry Eichengreen, Rudy Dornbusch from MIT, Larry Summers then at the World Bank, Joe Stiglitz, a whole bunch of people--saying this: We had just spent what would be $8 trillion at today's prices over the previous generation preparing to resist the military threat of the Soviet Union. Shouldn’t we be willing to spend an eighth of that--$1 trillion--on a Marshall Plan for Eastern Europe and the former Soviet Union to help shape their transitions away from really-existing communism to a more normal political system? We made the argument. We were shot down because the debt-to-GDP ratio was then on rising trajectory because of Ronald Reagan's budget deficits. The view of the politicians then was the U.S. government could not take on another large additional commitment given the instability of its long run finances.

I think we would be living in a better world now if we had found the extra trillion to disburse to countries that elected leaders friendly to democracy to move Eastern Europe and the Soviet Union in the direction of a normal political-economic configuration. The current state of Russia--where it settled without that large push from us--disturbs me greatly. But we could not find the resources to do it.

The fact that you are going to face emergencies and opportunities that involve large-scale government spending programs is a powerful argument for keeping your debt-to-GDP ratio low in normal times.

(5) But that does not mean that countries should not borrow except in emergencies. It is perfectly okay for a government to borrow and run up its debt when it is undertaking projects that are going to primarily benefit future generations.Taxing the citizens of the East Bay and San Francisco right now to pay for the entire reconstruction of the Bay Bridge seems unfair--the new Bay Bridge will still be there and be earthquake-safe 50 years from now. People who are going to move into the San Francisco area 40 years from now will benefit from the bridge. They should pay some part of the cost. Thus you should finance infrastructure projects that build up productive capacity through borrowing and debt.

You should also finance current spending through borrowing and debt if you think the future is going to be a lot richer than the present. If everyone in 2070 is going to have five personal robots capable of taking care of their every need, while we each have zero, perhaps we should run up the debt-to-GDP ratio and spend some of what their robots are going to produce on ourselves--for it will be little skin off their nose if they were taxed extra so that they had to divert the production of one of their robots to debt service and only had four personal robots capable of taking care of their every need.

If I had here a wormhole time machine with the other end in 2070, the people in 2070 might respond to that by sending us one of their killer robots to say:

Aren’t you already doing this? Aren't you imposing huge costs on us in your future by changing the climate with your carbon emissions? Right now you are melting the north polar ice cap as on hors d'oeuvre. You have no idea what you are ordering for an entree--but we are going to have to deal with all the floods and typhoons your actions are bringing to the people of the Genghis Delta in what is your future but our present.

If you weren't selfish dorks, you would right now be reducing your debt-to-GDP ratio now because we're going to need all the resources we can find to deal with global warming.

That's an argument.

That's the kind of argument you have to think about in thinking about what your plicy for the debt-to-GDP ratio should be. Which arguments should you find most convincing? I think you should pay very close attention to arguments made by people who can deploy wormhole time machines and killer robots..

So here we have our five rules for public finance.

A Right-Wing Conclusion: I want to close this lecture by making a right wing argument that these five rules are inconsistent and we have to drop one of them.

This right-wing argument is one that back when I was your age I pooh-poohed as nonsensical and simply silly. But it is 30 years later. I at least feel a little bit wiser. It's not that I believe this right-wing argument completely. But it has much more force with me than it did 30 years ago.

The argument comes from Nobel Prize-winning James Buchanan. He pointed out two generations ago that he didn’t think that these rules were politically sustainable. If you try to enunciate the principal that cyclical deficits in downturns are good and permanent structural deficits are bad--that is just too complicated for the political system to process.If you tolerate and approve of cyclical deficits to fight downturns, Jim Buchanan argued, then you're setting the political stage for permanent structural deficits because politicians will be eager to grab the argument that the deficits that they want to run are actually good for the economy.

Allow cyclical deficits, and you make permanent large structural deficits likely. They will slow growth by crowding out investment. They might eventually lead to an erosion of confidence in the government's ability to pay back its promises--and so lead you down the road to Mad Max.

Thus, Buchanan argued, the risks run by undertaking deficit spending in a downturn are too great. The only prudent course is to enunciate the principle: "always balance the budget, no matter what." 30 years ago I thought this was of course complete nonsense: to say that counter-cyclical deficits are good and structural deficits are bad did not seem to be an argument that was too complicated for the American political system to understand.

Today? Today I have to say that I just don’t have that confidence any more.

How many people have read George Orwell's Animal Farm? Oh, excellent--it is part of our common culture!

How many people remember the one-sentence slogan that is the basic principle of animalism? It is:

Four legs good, two legs bad.

That is the basic principle of animalism: four legs good, two legs bad.

(Note, by the way, that a wing is properly classified as an organ of locomotion. The wing properly understood is a leg and not an arm--and it is certainly not a hand. So even though chickens and geese have only two legs, they are not properly classified as Enemies of the Animals.)

The pigs and chickens and dogs and horses of Animal Farm can understand: "four legs good, two legs bad." Why can’t the senators at Congressmen of Washington understand the principle: "counter-cyclical deficit good, structural deficit bad"?

I have a much harder time believing in the rationality and the intelligence and the honesty of the politicians we tend to elect than I had thirty years ago. Right now we have a Republican party that's just set out its platform for the fall 2010 election. As best as I can see, the one sentence summary of its platform is: deficits are bad, so let's take steps to cut taxes and make them bigger.

Since 1980 I have seen all kinds of people--most of them but not always Republicans--attempt to permanently unbalance the U.S. federal government budget over the long run with all kinds of truly astonishing and falacious arguments. I have seen economists I had a lot of respect for--the likes of Eddie Lazear, Marty Feldstein, Glenn Hubbard, and Greg Mankiw--fall in line at the dictates of their political masters and argue for budget policies that they know are long-run economic disasters. So I would like to inoculate you against some of these fallacious ideas.

On the Laffer Curve: The idea you will hear more often is the idea of the Laffer Curve--the claim that cutting taxes is actually increasing taxes because if you cut tax rates you will increase tax revenues. Why? Because the cut in tax rates will produce such a huge outburst of extra economic activity and prosperity.

To immunize you against this I want to say that this Laffer Curve argument really does work in three but in only three situations.

The Laffer Curve argument can work in "depression economics" situations. Because business investment depends on how large business profits are, a cut in taxes that boosts consumption spending can also boost business sales by enough to raise profits enough that investment grows enough that the government-deficit multiplier is large enough your cut in tax rates while unemployment is high actually improves government finances and lowers the debt-to-GDP ratio. In times of very high unemployment you should at least think about whether cutting taxes and raising spending might put the government finances on a sounder basis. I think that that is definitely the case for Ireland today. Ireland embarked upon a policy of fiscal austerity, of cutting back spending and increasing taxes in order to reduce its deficit and restore confidence in the government. What did they find happened? They just pushed one of their biggest banks over the edge into bankruptcy. The cost of keeping it from bringing down the entire Irish financial system into a complete crash will be in the order of five times as large as the improvement in the deficit they got by increasing taxes and cutting spending.

The Laffer Curve generally works with tariffs--taxes on imports, on international trade. Taxes on trade are extremely damaging in the sense that you raise remarkably little money for the economic activity you discourage. Indeed, one of my jobs when I worked for the Clinton administration was to make Laffer Curve arguments about how tariff cuts were in fact likely to produce much more benefits in terms of expanded economic growth by letting people who would make things more cheaply in different parts of the world make them. And I still stand behind those arguments.

The Laffer Curve works when tax rates are nearly 100%--whether through the tender mercies of the likes of Kim Jong-un or Fidel Castro or just through complete corruption. Under those situations cutting "tax rates" on enterprise is something you surely want to do.

But if you have the relatively honest governments of the North Atlantic with their effective tax systems, and if you have our remarkably well-functioning Internal Revenue Service successfully making people pay what taxes they owe by threatening them with random terror if they underreport their incomes--then your Laffer coefficient is one-tenth rather than one. You should think that if you cut tax rates, then you will find that you have induced some people to shift some of their income into taxable forms and you won't lose all of the tax revenue that you had initally calculated you would lose--but you will lose 90% of it.

Jonathan Chait points out that these rules are actually looser than the ones currently in effect--the right summary is "GOP loosens House rules":

Rules For (Republican) Radicals: Politico reports on the House Republicans' "strict" new rules.... This is not a strict new rule. This is a slackening of an existing rule... [that] any new entitlement spending or tax cuts had to be offset with entitlement cuts or higher taxes. Republicans hated this rule, and suspended it in 2001.... Democrats reinstated the rule in 2006, leaving a loophole for the Bush tax cuts. Republicans have now eliminated it again.... [T]he GOP new rules mean that new tax cuts do not require any offsets at all.... [T]hey are replacing a rule that prevented policies that add to the deficit with a rule that enables policies that add to the deficit.

What Do Econ 1 Students Need to Remember Most from the Course?: This is where the market economy comes in. Let us assign each newly-produced commodity a particular person. Call this person the "owner." Let the owner decide who is going to get to use the commodity. Let the owner exclude all others who from using the commodity. And let the owner charge the designated user he or she has decided upon a "price" for the right to make use of this commodity. This simple institutional arrangement has a huge number of advantages as societal mechanism for planning and coordinating the production and distribution of scarce, rival, excludable commodities.

It solves the problem of production--what commodities we should try to make more of. Individuals look forward into the future...

I can only say "touché" when my teacher Jeff Weintraub emails from UPenn:

[although] that's a very nice job... [which] brings out what is so dazzling, profound, and paradigm-changing about the theory of the market (starting with our friend Adam Smith)... I just wanted to highlight one significant conceptual glitch that I see in the first post, even within the analytical framework you're presenting. In laying out the virtues and achievements of a working market system, you start with this one:

It solves the problem of production--what commodities we should try to make more of.

Actually, it doesn't. As the rest of your paragraph makes clear--or even the part of this sentence following the dash--it solves the problem of indicating the pattern of demand (or, as Smith puts it, "effectual demand"), thus providing incentives for people to produce things that other people want, and to focus especially on producing the things for which there is greatest demand. Someone still has to produce those things... this theoretical framework for defining or framing "the economic problem" largely ignores, or at least takes for granted, the whole problem of production (and the theoretical problematic it would entail). I think it would not be unfair to say that, in this respect, it faithfully represents the central thrust of the whole theoretical tradition running from Smith up through neoclassical economics...

I should change it to:

it solves the problem of incentives--of how to induce people to set to work figuring out how to make those scarce, rival, excludible commodities that demanders most value. Individuals look forward into the future...

And I am becoming more and more convinced that something very bad happens to Archie Noble called "Waitabout" just after the last page:

But certain he was no common man, though common seeming, a robber and a slayer and broken wanderer..., he read me a lesson, aye, and so too did my Lady Dacre, though what it was I can hardly tell even now. Yet I would tell of them both that have been out of my mind these many years, saving that visit my lady paid me five years agony, fair and smiling still and brought me a gift of fine Italian wax, though not scented, "for we shall burn no incense between us, nor make graven images neither," as she said, which was an old jest between us. "A remembrance of Candlemass," says she, "aye, of the Candlemass road," and told me they had made a balled of it, and of what befell betwixt the fires at Triermain, which I marveled to her speak of so lightly. But of Waitabout she spake not at all...

[...]

"Now God thank you, lady, that was courteously said, and more than I deserve for my frowardness." He begged her pardon for that, and I would he had left it there and gone away with all good will between them, so should much evil have been avoided, not least to me that have carried the weight of it these many years...

ARMY: Flowing Horses: A line of Army scout cars rolled out of Fort Bliss, down a rutty road, and out on the Texas plain. Beyond the stubby noses of the cars stretched wave on wave of "bondocks" (sand hummocks, topped by sage and greasewood) and deep arroyos. Behind the scout cars, a mile across the twisted land, stood file after file of horsemen, half-hidden in the brush. The U. S. Cavalry was about to have some fun.

An officer's voice crackled in the scout-car radios. The four-wheel drives bit into the sand, and the cars lunged side by side over the plain. Where the bondocks were low, the light-armored cars, carrying three-man crews and two machine guns, could do 10 m.p.h. Where the hummocks were four and five feet high, 4 m.p.h. was the top. The cars were slow, but the bondocks did not stop them.

Back where the cavalry waited, the right hand of an officer rose, swung forward. Horses and horsemen spurted from the brush. In the scout cars, above the pattering exhausts, the men heard the crying breath of horses on the run. Mounted riflemen, machine-gun squads, four horse-drawn howitzers overtook, enveloped, rushed past the cars at 20 m.p.h. The horsemen vanished ahead into a shallow arroyo, arched over the far side, rode on. The artillerymen pulled up, dismounted, within a few minutes had their horses hidden, their guns barking blanks.

Where the desert abruptly broke and dropped down a pitted, 40-foot slope to a lower plain, the scout cars had to stop. But the horses did not. Over the brow of the slope, down the sandy ridge they leaped and slid. All along the ridge poured a river of men & horses, breaking at the edge, spilling downward and riding on. Half a mile beyond, they clustered again. Riflemen dismounted, jerked guns from holsters. Machine-gunners ripped at their packs, vanished into the brush with the guns. Within five minutes the squadron was deployed for battle, the horses had disappeared among the sand hills.

"Now, gentlemen, you see what I meant," said horse-proud Major General Robert Charlwood Richardson Jr., commander of the First Cavalry Division at Fort Bliss. What he meant was that horses could "flow"' over terrain where no truck, scout car or tank could go. He spent an evening last month expounding his doctrine of flowing horses and horsemen to visiting newspapermen, then put on his show next day. He had indeed demonstrated that modern cavalry could flow off roads, through brush and sand, over ridges and through gullies which would slow or balk any mechanized force. And horsed units, within the limits of a rough battlefield, could speedily transport an impressive array of fire power: a modern U. S. Cavalry division's 6,476 horses and 10,100 officers and men should carry, among other things, 9,764 pistols, 942 light & heavy machine guns, 117 artillery pieces, 4,863 Garand rifles...

Brad DeLong Makes a Wishful Mistake: Chris Bertram... wonders about the implications of the fact that "work in empirical psychology and evolutionary anthropolgy (and related fields) doesn't — quelle surprise! — support anything like the Hobbesian picture of human nature that lurks at the foundations of microeconomics.... Brad DeLong asserts that the microfoundations of economics point not to a Hobbesian vision of the war of all against all, but rather to Adam Smith's propensities for peaceful cooperation, especially through exchange:

The foundation of microeconomics is not the Hobbesian 'this is good for me' but rather the Smithian 'this trade is good for us,' and on the uses and abuses of markets built on top of the 'this trade is good for us' principle.

Bertram objects that this isn't true, and others in DeLong's comments section further object that modern economics simply does not rest on this Smithian vision. DeLong replies:

Seems to me the normal education of an economist includes an awful lot about ultimatum games and rule of law these days...

I have to call this one against DeLong.... The fact is that the foundations of standard microeconomic models envisage people as hedonistic sociopaths, and theorists prevent mayhem from breaking out in their models by the simple expedient of ignoring the possibility.

If you open up any good book on welfare economics or general equilibrium... you will see a clear specification of what the economic agents care about: this is entirely a function of their own consumption of goods and services.... If one such agent has an unsatiated demand for potato chips, and the cost of one more chip will be to devastate innumerable millions, they simply are not equipped to care. (And the principle of Pareto optimality shrugs, saying "who are we to judge?") Arrow, Debreu and co. rule out by hypothesis any interaction between agents other than impersonal market exchange, but the specification of the agents shows that they'd have no objection to pillage, or any preference for obtaining their consumption basket by peaceful truck, barter and commerce rather than fire, sword and fear.

Well, you might say, welfare economics and general equilibrium concern themselves with what happens once peaceful market systems have been established. Of course they don't need to put a "pillaging, not really my thing" term in the utility functions, since it would never come up. Surely things are better in game theory, which has long been seen to be the real microfoundations for economics?

In a word, no. If you ask why a von Neumann-Morgenstern agent refrains from pillaging, you get the answers that (1) the game is postulated not to have pillaging as an option, or (2) he is restrained by fear of some power stronger than himself, whether that power be an individual or an assembly.... This is very much in line with the thought of an eminent British moral philosopher — one can read the Folk Theorem as saying that Leviathan could be a distributed system — but that philosopher is not Dr. Smith.

One can defend the utility of the Hobbesian, game-theoretic vision, and though in my humble (and long-standing) opinion the empirical results on things like the ultimatum game mean that it can be no more than an approximation useful in certain circumstances.... But of course those ideas are not part of the generally-accepted microfoundations of economics. This is why every graduate student in economics reads (something equivalent to) Varian's Microeconomic Analysis, but not Bowles's Microeconomics: Behavior, Institutions, and Evolution; would that they did. If you read Bowles, you will in fact learn a great deal about the ultimatum game, the rule of law, and so forth; in a standard microeconomics text you will not. I think the Hobbesian vision is wrong, but anyone who thinks that modern economics's micro-foundations aren't thoroughly Hobbesian is engaged in wishful thinking.

Roy Blunt: Everybody else seemed to be rushing for a deal and John McCain came back and said, ‘Wait a minute, I think the House Republicans have the taxpayers in mind and I’m with them’...

Now it's time to go back to three principles. There are three options:

Do nothing.

Bailout (a la Paulson)

Nationalization (a la Sweden 1992)

Do nothing was last tried in 1929-1932. The result was called the Great Depression. Let's not do that again. Let's decide between bailout and nationalization.

Nationalization has the best chance of avoiding large losses and possibly even making money for the taxpayer. And it is the best way to deal with the moral hazard problem.

It might work like this. Congress:

grants the Federal Reserve Board the power to take any financial firm whatsoever with liabilities and capital of more than $25 billion that is not well capitalized into conservatorship

requires the Federal Reserve Board to liquidate any financial firm in its conservatorship when it judges that the firm is insolvent (paying off in full or not paying off in full the liabilities of the firm at its discretion), unless

the Federal Reserve Board finds that preservation as a going concern is in the interest of the taxpayer, in which case Congress

grants the Federal Reserve Board the power to transform equity stakes in the firm into junior preferred stock at par value and then transfer ownership and custody of the firm to the Treasury

requires the Federal Reserve to terminate conservatorship if the firm becomes well-capitalized once again.

In addition, Congress:

grants the Treasury the power to issue up to $500 billion of troubled asset redemption bonds, the proceeds of which are then to be loaned to the Federal Reserve to be used to cover the liabilities of those liquidated firms that the Federal Reserve judges it is in the interest of the taxpayer to have their liabilities paid off in full.

Paulson had his shot. It's time for the Democrats to pass a nationalization-in-the-taxpayers'-interest bill and dare Bush to veto it. If he does, then announce that the congress will pass it again the day after the election. And if he vetoes it again, announce that congress will pass it yet again on January 21, 2009.

STRATEGY: Britain's Best Week: All roads led to Rome last week, and the Romans used them, lickety-split. Along a rock-&-gravel supply highway which Marshal Rodolfo Graziani had just completed from Sidi Barrani back to bases in Libya, Italy's Army of the stagnant Egyptian invasion ran for its life. Along an Albanian road hugging the cliffs spectacularly from Porto Edda to Valona, built by the Italians during the last war and subject of great engineering pride with them, Italy's Army of the reversible Greek invasion made further headway backwards. The Italians were so completely on the run that Adolf Hitler and Joachim von Ribbentrop were also reported on the highroad toward Rome, to speak to their little brother of the Axis.

All this made the week the most important since the fall of France. It might prove to be a turning point in the war. But there were many ifs attached to that possibility.

The very best view Britons could take of last week's news was that Italy might fall out of the war, that internal dissatisfaction might force a separate peace. What, militarily, would the collapse of Italy mean for the British cause? It would not keep German bombers from the Isles. It would not necessarily mean that Britain could remove its entire Mediterranean Fleet for duty elsewhere (uncertain is the disposition of the rest of France's Navy, of Spain's not negligible fleet). But collapse of Italy would certainly relieve pressure, freeing troops, planes and some ships.

But Italy's collapse had still to occur. Though the battle in Egypt was a major victory for Britain, her first in the war, even well-informed Londoners guessed it was not decisive. It was equally hard to see how the Greek invasion of Albania could be decisive. The best the Greeks could do would be to get all of Albania, and last week's lull suggested that this was pretty much to hope for.

Besides, Adolf Hitler might feel obliged to go to Italy's aid. If necessary, Germany might even occupy Italy. But Germany might bolster Italy by less drastic means, by lending planes to fight the Greeks, or attacking Gibraltar through Spain, Greece through Yugoslavia.

Last week was the best Britain had had in the war, but the best that it promised was to distract Hitler from his plans—from his big plan, whatever it may be, for destroying Britain in 1941.

It's all here, friends. An urgent plea for help. A living human head, the victim of a 'failed body transplant.' Loneliness. Friendship. Trust. Life. Betrayal. Death. Lawyers. Returns from the dead. More lawyers, Western Union, mothers who 'collarpse,' and so much more!

Briefly, here is the cast:

THOMAS MALLORY -- A living human head, kept alive by a life support machine housed deep in the lowest sub-basement of the Biology Building at Miskatonic University in scenic Arkham, Massachusetts. The object of our scammer's dim-witted attentions.

MR. MOTO -- Mr. Mallory's caretaker. A simple man, Mr. Moto has Thomas Mallory's full and complete trust -- but does Mr. Moto hide a dark secret that no one, not even Mr. Mallory, suspects?

MELANIE ROURKE -- Legal counsel to Miskatonic University, and later to Thomas Mallory. A sharp-tongued, thoroughly offensive person, Melanie pulls no punches and brooks no foolishness.

ALBERT ABOSSI -- Our 419 scammer du jour. Prone to frequent mis-spellings, and even more frequent lapses in basic mental processes. Will, at one point, utter the words "...like I told you last time before your death ..." and apparently not feel the least bit silly.

MANAGEMENT -- The never-named upper echelon of the world famous "National Securite Company." Please do NOT confuse "Securite" with a "Security" company, which is an entirely different organization, in that the "Security" company would probably spell their name correctly.

BARRISTER JAMES BAWA -- Never really gets much screen time, what with all the deaths, resurrections, and aforementioned exploding mammas. Would have been happy to provide Thomas with a variety of clumsily forged documents at reasonable prices.

Today's announcement wasn't a huge deal -- it's just a timeline.... But the larger subject of greenhouse gas regs for existing pollution sources like power plants and oil refineries is a big deal.... EPA is proceeding on two separate tracks. The first track is a permitting program for new (or substantially upgraded) sources.... Today's announcement, by contrast, was about the second track, which will apply to existing sources.... [T]oday's announcement was just about two of the biggest: power plants and oil refineries, which together account for about 40 percent of U.S. greenhouse gas emissions. EPA didn't announce the standards themselves, but rather a timeline for when they will be announced and implemented.... Today's announcement means that a lot of existing sources that were "grandfathered" (i.e., exempted) under the original Clean Air Act -- in particular, dirty old coal plants -- are now going to have to clean up for the first time ever. That's a sea change.

Bottom line: This latest development is one more step in the march toward finally getting large existing sources of greenhouse gases and other air pollutants to clean up. But the real action will come next year, when the standards themselves are announced. Stay tuned!

The Blast Shack: The Wikileaks Cablegate scandal is the most exciting and interesting hacker scandal ever. I rather commonly write about such things, and I’m surrounded by online acquaintances who take a burning interest in every little jot and tittle of this ongoing saga. So it’s going to take me a while to explain why this highly newsworthy event fills me with such a chilly, deadening sense of Edgar Allen Poe melancholia....

Cypherpunks were visionary Californians from the WIRED magazine circle. In their personal lives, they were as meek and low-key as any average code-cracking spook who works for the National Security Agency.... One minute’s thought would reveal that a vast, opaque electronic spy outfit like the National Security Agency is exceedingly dangerous to democracy... the very antithesis of transparency, and accountability, and free elections, and free expression, and separation of powers.... The NSA, this crypto empire, is a long-lasting fact on the ground that we’ve all informally agreed not to get too concerned about....

The NSA is “discreet,” so, somehow, people tolerate it. Wikileaks is “transparent,” like a cardboard blast shack full of kitchen-sink nitroglycerine in a vacant lot. That is how we come to the dismal saga of Wikileaks and its ongoing Cablegate affair, which is a melancholy business.... Now we must contemplate Bradley Manning, because he was the first to immolate himself. Private Manning was a young American, a hacker-in-uniform, bored silly while doing scarcely necessary scutwork on a military computer system in Iraq. Private Manning had dozens of reasons for becoming what computer-security professionals call the “internal threat.”... It did not occur to his superiors that a bored soldier in a poorly secured computer system would download hundreds of thousands of diplomatic cables. Because, well, why? They’re very boring.... Bradley Manning believes... he can leak a quarter of a million secret cables, protect himself with neat-o cryptography, and, magically, never be found out. So Manning does this.... No hacker story is more common than this. The ingenuity poured into the machinery is meaningless. The personal connections are treacherous. Welcome to the real world. So Private Manning, cypherpunk, is immediately toast.

No army can permit this kind of behavior and remain a functional army; so Manning is in solitary confinement and he is going to be court-martialled. With more political awareness, he might have made himself a public martyr to his conscience; but he lacks political awareness. He has only his black-hat hacker awareness, which is all about committing awesome voyeuristic acts of computer intrusion and imagining you can get away with that when it really matters to people.... Bradley had to leak all over the third rail. Through historical circumstance, he’s become a miserable symbolic point-man for a global war on terror. He doesn’t much deserve that role. He’s got about as much to do with the political aspects of his war as Monica Lewinsky did with the lasting sexual mania that afflicts the American Republic.

That is so dispiriting and ugly. As a novelist, I never think of Monica Lewinsky, that once-everyday young woman, without a sense of dread at the freakish, occult fate that overtook her. Imagine what it must be like, to wake up being her, to face the inevitability of being That Woman. Monica, too, transgressed in apparent safety and then she had the utter foolishness to brag to a lethal enemy.... Bradley Manning now shares that exciting, oh my God, Monica Lewinsky, tortured media-freak condition....

Bradley’s gonna become a “spy” whose “espionage” consisted of making the activities of a democratic government visible to its voting population....

[T]his time, thanks to Manning, Assange has brought in a massive truckload of media fishfood. It’s not just some titillating, scandalous, floating crumbs. There’s a quarter of a million of them. He’s become the one-man global McDonald’s of leaks.... Julian Assange has hacked a superpower. He didn’t just insult the captain of the global football team; he put spycams in the locker room. He showed the striped-pants set without their pants.... Assange has had many long, and no doubt insanely detailed, policy discussions with all his closest allies, about every aspect of his means, motives and opportunities. And he did what he did with fierce resolve. Furthermore, and not as any accident, Assange has managed to alienate everyone who knew him best. All his friends think he’s nuts. I’m not too thrilled to see that happen. That’s not a great sign in a consciousness-raising, power-to-the-people, radical political-leader type. Most successful dissidents have serious people skills and are way into revolutionary camaraderie and a charismatic sense of righteousness....

I rather doubt the authorities are any happier to have him in prison. They pretty much gotta feed him into their legal wringer somehow, but a botched Assange show-trial could do colossal damage. There’s every likelihood that the guy could get off. He could walk into an American court and come out smelling of roses. It’s the kind of show-trial judo every repressive government fears.... The superpower hypocrisy here is gonna be hard to bear. The USA loves to read other people’s diplomatic cables.... He’s a different, modern type of serious troublemaker. He’s certainly not a “terrorist,” because nobody is scared and no one got injured. He’s not a “spy,” because nobody spies by revealing the doings of a government to its own civil population. He is orthogonal. He’s asymmetrical. He panics people in power and he makes them look stupid. And I feel sorry for them. But sorrier for the rest of us.

Julian Assange’s extremely weird version of dissident “living in truth” doesn’t bear much relationship to the way that public life has ever been arranged. It does, however, align very closely to what we’ve done to ourselves by inventing and spreading the Internet....

If there’s one single watchword, one central virtue, of the diplomatic life, it’s “discretion.” Not “transparency.” Diplomatic discretion. Discretion is why diplomats do not say transparent things to foreigners. When diplomats tell foreigners what they really think, war results. Diplomats are people who speak from nation to nation. They personify nations, and nations are brutal, savage, feral entities. Diplomats used to have something in the way of an international community, until the Americans decided to unilaterally abandon that in pursuit of Bradley Manning’s oil war. Now nations are so badly off that they can’t even get it together to coherently tackle heroin, hydrogen bombs, global warming and financial collapse. Not to mention the Internet. The world has lousy diplomacy now. It’s dysfunctional. The world corps diplomatique are weak, really weak, and the US diplomatic corps, which used to be the senior and best-engineered outfit there, is rattling around bottled-up in blast-proofed bunkers. It’s scary how weak and useless they are....

I’ve met some American diplomat.... Like hackers, diplomats are very intelligent people; unlike hackers, they are not naturally sociopathic.... The cables that Assange leaked have, to date, generally revealed rather eloquent, linguistically gifted American functionaries with a keen sensitivity to the feelings of aliens. So it’s no wonder they were of dwindling relevance and their political masters paid no attention to their counsels.... For diplomats, a massive computer leak is not the kind of sunlight that chases away corrupt misbehavior; it’s more like some dreadful shift in the planetary atmosphere that causes ultraviolet light to peel their skin away. They’re not gonna die from being sunburned in public without their pants on; Bill Clinton survived that ordeal, Silvio Berlusconi just survived it (again). No scandal lasts forever; people do get bored. Generally, you can just brazen it out and wait for the public to find a fresher outrage. Except. It’s the damage to the institutions that is spooky and disheartening...

Is something like this useful? Or is it just too rough and too situation-dependent to be of interest or use to anybody who was not there? (Or, indeed, to any of the people who were there..)

Logistics: We on the teaching staff do realize that in today's Age of the Internet we can very easily throw more material at you than you can possibly absorb.

But you are 21st century Americans. You are used to swimming in a deep sea of information.

And you are students at U.C. Berkeley: you are among those whom by genetic endowment and luck and hard work are best-prepared to absorb whatever we throw at you to build your human capital.

And you are not paying for a good chunk of your education. The good citizens of Paso Robles and San Dimas are, even though you are highly likely to be richer over your lives than they are. They are paying for a good chunk of your education because they believe that money spent educating a technocratic elite is money well spent because you will use the knowledge you build here to go do great things to better California and the world. It is our job up here not to make sure that you have fun but to teach you as much as possible so that the chance that the good citizens of Paso Robles and San Dimas get good value for their subsidy to the University of California is as high as possible.

Thus whenever we prepare or run across anything that we think might be useful to some of you, our natural inclination is to throw it up on the web so that you can take a look and judge whether it is of significant use--to you.

So as you start to prepare for the midterm, do take a look at the files we have thrown up. Be sure to do problem set three. And I highly recommend that you do the practice midterm--it should be easy because you can use the time you would otherwise you to do problem set 4, which we are postponing until after the midterm.

Inflation Economics: One final note about "inflation economics." At this moment, out of the seven seats on the Federal Reserve board three are vacant. The Obama administration has--after long and unconscionable delays--nominated MIT economist Peter Diamond, San Francisco Federal Reserve Bank President Janet Yellen, and my wife’s college classmate Sarah Bloom Raskin. The Republicans in the Senate have blocked their confirmation. It is not clear why--as I understand it, no Republican senator admits to blocking their confirmation, but one of them is and the rest are standing behind him.

The Chair of the Federal Reserve Board can be an overwhelming and dominant voice. But this Federal Reserve Chair, Ben Bernanke, is not: he sees his role as that of expressing the consensus of the Board and of the other committee he chairs, the Open Market Committee. That means that right now the voting members of the FOMC excluding the chair consist of one Democratic nominee, Daniel Tarullo; two Republican nominees of whom, in the words of one of my colleagues, "one of them is pretty good"; and four Federal Reserve Bank presidents who have been largely chosen by their local bankers.

By this time you should be scratching your head: Why hasn't a new president made it a point--in what is now 20 months in office-- of getting his people confirmed to the board that performs the important task of making monetary policy? Why is such an important public and governmental function as the making of stabilizing monetary policy made primarily by guys chosen by bankers? Back when the Federal Reserve was established there was a worry that bankers had too great an influence--and the solution enacted during the Great Depression was to make sure that a majority of voting members would be presidential nominees coming from the government--people who had been appointed by the president who had been elected by the people--and that only a minority would be chosen by the bankers on the grounds that while you wanted their expertise you did not want them to dominate the discussion.

But that solution does not work if the president does not nominate and the senate does not confirm.

Government Budget Economics: With that commercial for Federal Reserve reform--and senate reform--we leave inflation economics and turn to the long-run government budget. I have here in my hand a piece of currency, a dollar bill. It is from Zimbabwe. It is for $100,000,000,000,000 Zimbabwean dollars.

How does a government get into a situation in which it is printing bank notes like this? How does a government make sure that its successors will never get into a situation in which they are printing bank notes like this?

A government that finds itself printing hundred trillion dollar bills is a government that is doing very badly indeed. It is destroying its system of monetary exchange. It is deranging its economic division of labor. It is severely crippling if not eliminating altogether the ability of people to make and trade things on markets for predictable prices--which is one of the things that makes us all so rich. It is returning the economy to barter and to the autarchy of unspecialized production for yourself. It is throwing away what we have learned through 6000 years of progressing civilization about how to organize economies.

The answer is that governments find themselves resorting to printing things like these Zimbabwean hundred trillion dollar bills when they have proven permanently unable to balance their budgets.

When government spending has outrun taxation, and when their spending has outrun taxation so long and so far that nobody is willing to lend the government money because nobody thinks that they are ever going to get whatever they lent back--that is when a government finds itself printing hundred trillion dollar bills. The questions of how governments get into such situations, and of whether the US government now is close or getting closer to such a situation--those are the key questions of government budget economics.

The U.S. Debt-to-GDP Ratio Over Time: Look at this graph of the United States national debt truly held by the public divided by the annual GDP of the United States. Take the total amount of money the government has promised to pay its bondholders, divide that amount by annual GDP, and you have a measure of the potential burden of the debt on the U.S. economy. Here we have this measure back to the early 1790s.

Alexander Hamilton and the Origins of the National Debt: Back in the early 1790s, the national debt was close to 40% of annual GDP. It was close to 40% because the first Treasury Secretary, Alexander Hamilton, thought it was a good idea to make it close to 40%. He convinced congress to let him go to the states and say:

You know all that money you spent winning us our independence from Britain by raising armies during the Revolutionary War? The federal government is going to pay you back for all of that. We in the federal government are going to assume your Revolutionary War debts, and pay off all the bonds you issued at full face value.

Alexander Hamilton did this for three reasons. One was he had a bunch of friends who were financiers in New York. Once they got wind of how he was thinking they had the opportunity to buy up pieces of the debt from the merchants, the soldiers, and the others to whom the government owed money--to say:

You don't think New Jersey will ever pay off that piece of paper, do you? I'm willing to gamble that they will eventually pay something--how about you trade it to me for 40 cents? You get the cash, I take the risk, it is a good deal for both of us.

Then Alexander Hamilton announces his debt assumption plan. New York financiers who understand how Hamilton thinks make an awful lot of money. And they are grateful.

That, however, was only a minor reason.

One major reason was that Alexander Hamilton saw that the United States was then a relatively small country in a world dominated by two super powers, Britain and France. Both Britain and France had ocean-spanning ambitions and blue water navies. Hamilton thought it likely that we would at some time in the future get into a big war with either Britain or France. And he wanted to make sure that if we did get into a big war that the federal government would be able to borrow money in order to fight it effectively. Moreover, even if we did not get into a big war a U.S. federal government that could not borrow--that had no debt capacity--would be weak. Both France and Britain would both notice that we were weak, and they would steal our stuff, press our sailors and make them man their navies, et cetera et cetera. Thus Hamilton thought it was important for the federal government to start its existence by building up its debt capacity. And what better way to convince investors that the federal government would pay off its debts in the future than for it to pay off the debts of the United States incurred during the Revolutionary War--even or perhaps especially if those debts had not been incurred by the current federal government?

The most important reason, however, was that Alexander Hamilton was Secretary of the Treasury in a country where the rich were at best uneasy about the revolution and independence. Of America's upper class as it stood in 1775, full half of them were gone: had fled to Britain or Canada during the Revolutionary War. Those who remained remembered that back before 1775 the British monarch had protected property, that the British army and navy had protected them against deprivations of all kinds, that it was quite clear who the police worked for. Now you have a republic with a much broader electorate. Might politicians run on a platform of soaking the rich and redistributing wealth to the poor? Thus the rich people were nervous--and at least thinking about how maybe it would be good if the British came back and ruled again.

This was where Alexander Hamilton had his good idea. Suppose, he thought, he could set things up so that the rich owned a lot of U.S. government bonds. Then if the British returned--well, the British were not going to pay off the Revolutionary War debt of the United States of America under any circumstances. Having a national debt was a way to bind the United States rich to the country--giving them a stake in the new republic's survival. And by large it worked: the national debt was a national blessing.

Standard Debt Dynamics: In this figure from 1790 to 1980 we see what became the standard dynamics of the United States national debt. During big wars--the Civil War, World War I, World War II, and to a lesser degree the War of 1812--the United States borrows big time to fight. And so the debt-to-GDP ratio rises. When the United States goes into a significant economic depression--either the Great Depression or our current Great Depression--it also borrows frantically, sometimes enthusiastically and sometimes reluctantly, to avoid massive cuts to government spending programs and to try to keep the economy moving again.

In other non-war non-deep depression times between 1790 and 1980 the budget was always more-or-less balanced. There might be a small deficit. But because the economy was growing through immigration, through capital accumulation, and through the progress of knowledge about technologies and organizations that increases productivity, GDP was growing much more rapidly than the debt, and so the debt-to-GDP ratio was falling. Raise the debt-to-GDP ratio in wars and depressions. Watch it fall at other times. Those were the standard dynamics of the U.S. national debt.

The Reagan Revolution: That works until the 1980s. What happens to change it? In 1980 we elect Ronald Reagan, the first of the huge peacetime deficit presidents.

When Reagan was governor of California from 1966 to 1974, he was very much a balanced budget governor: he thought it important that the government not overspend, that it not run big deficits. He believed in investment in the future, yes--funding the University of California and building infrastructure--but not in large-scale deficit spending.

As soon, however, as Reagan gets elected president he pushes for massive peacetime deficits, and the debt-to-GDP ratio rises quite rapidly during his terms and during his successor George H.W. Bush's term. Then Bill Clinton gets elected in 1992. Clinton reverses course: he raises taxes and puts ceilings on spending growth. The debt-to-GDP ratio resumes its normal peacetime downward trajectory.

Then we elect--well, Justices Scalia, Rehnquist, Thomas, O'Conner, and Kennedy elect--George W. Bush. His vice president Richard Cheney believes that "Ronald Reagan showed that deficits don’t matter." Lo and behold, the deficits starts up again and the debt-to-GDP ration rises. Then the financial crisis hits. We react as we usually do in a big downturn: spending money--albeit not enough money--to to and keep the economy on an even keel.

Now the Obama administration is in a puzzling situation. How fast should it cut the deficit? When are we going to get out of our "depression economics" situation in which a deficit is a positive good as a demand stimulus? When will we start having normal times again in which the debt-to-GDP ratio should be on a downward trajectory? And how are we then going to put the debt-to-GDP ratio on its normal peacetime non-depression downward trajectory?

The scary thing is that as I look at the complexion of politics in Washington, putting the debt-to-GDP ratio on its normal downward trajectory appears a very difficult task. Things have definitely changed.

There are two theories to why things appear to have changed around 1980--why our political system no longer generates the small government deficits and the downward debt-to-GDP trajectory that it used to.

The first theory is ideological: that something has gone very wrong with the minds of the Republican Party's officeholders, apparatchiks, and their tame intellectuals. From the end of the Civil War all the way up to 1980 the Republican Party tended to be a small-government balanced-budget party: its consensus was that the first priority was to balance the budget, and that if the budget was balanced the next priority was to cut spending. Since 1980 the Republican Party has been a large-government unbalanced-budget party: its first priority is to cut taxes, its second priority is to raise spending on national defense and spending and tax expenditures on programs of interest to lobbyists who fund Republican campaigns, and balancing the budget is a distant third priority--if it is there at all.

The second theory is structural: that we have changed the character of government spending. It used to be that most of U.S. federal government spending was done through the appropriations process--spending that had to be decided upon and revoted year after year. The U.S. federal government spent on defense, on national parks, on building dams and ports, on building interstate highways, building canals. But that is not what the U.S. government spends on today: today the U.S. government spends on Medicare, Medicaid, and Social Security. Spending on those programs as a share of GDP goes up automatically as the population ages and as doctors and pharmacists become more inventive about how to treat people with diseases.

Health Care Spending and the Long-Term Budget Outlook: This particular chart here is by the Congressional Budget Office, an organization headed by my friend Douglas Elmendorf. This is his take on the long-term outlook for the U.S. federal government's spending and revenue--his "alternative fiscal scenario," which is his guess of what will happen if the budget votes that congress typically takes keep on going the way they have been typically going.

The big black line at the top is total primary spending--spending excluding interest on the national debt. The rule of thumb is that in normal times the debt-to-GDP ratio will be constant if primary spending is equal to revenue, that the debt-to-GDP ratio will rise if primary spending exceeds revenue, and that the debt-to-GDP ratio will fall if primary spending is less than revenue.

Spending on government programs--primary spending--consists of mandatory or entitlement spending and discretionary spending. Mandatory spending makes up the bottom two layers of this cake. Discretionary or appropriated spending makes up the top, light blue layer: national defense plus everything that the civilian government used to do.

At the bottom are the big entitlement programs. The United States has promised it will pay Social Security benefits. We know that under current law Social Security spending is projected to rise from about 4% of Gross Domestic Product today up to 6% by 2035.

On top of that are the federal health spending programs: Medicare, Medicaid, the Children’s Health Insurance Program, and the "exchange subsidies" that are part of our brand-new newly-enacted but not yet implemented RomneyCare system by which people are required to buy health insurance on the yet-to-be-started health insurance exchanges, but this requirement is eased by providing poor people with subsidies to make buying private insurance affordable.

The amount of money that these health care programs will cost is, if things continue as they have been, scheduled to grow from a total of 5.5% of GDP today to something like 9% of GDP in 2035. And these spending programs are automatic. The United States government has promised that it will pay for them. For spending to grow less rapidly would require that congress vote and the president sign big changes in what categories of health spending the federal government will pay for. At the moment the federal government will pay for what your doctors and nurses say is medically appropriate. And Doug Elmendorf says that if he has learned anything from being a health economist over the past 30 years, it is that doctors are very good at figuring out new and expensive things to do that are medically appropriate.

Many of things are medically appropriate. Our revolutions in medicine and public health have doubled lifespan over the life of this country. But many of these things are expensive. And neither political party wants to make controlling the rate of growth of healthcare spending--changing the law so that Medicare will no longer pay for a kidney transplant for your grandma--its signature issue. The big Republican talking point this fall is that the Democratic Party's promises to streamline Medicare to make it more efficient are really plans for huge Medicare cuts that mean that someday your grandma or you will have to go in front of a government "death panel" that will turn their thumbs down. We, the Republicans are saying, are going to repeal all of the Medicare cuts and the tax increases in the recently-passed Affordable Care Act--but we are going to keep all of the parts of the ACA that actually cost money.

Feckless Congress: That is what drives the increase in expected federal government spending as a share of GDP over the next 25 years in Doug Elmendorf's Alternative Fiscal Scenario: that whenever it gets the chance congress will shy at the jump and push all steps to reduce the rate of growth of government health-care spending programs off for an extra year or two--as it has done with the Medicare Sustainable Growth Rate formula for a decade now--and keep pushing them off. That is the thing that makes the long-term budget outlook look extremely dicey. These increases in spending happen without a single congressional vote: they are build into the structure of Medicare and Medicaid, of SCHIP and of the exchange subsidies. If we simply have congressional gridlock as usual, spending goes up as a share of GDP. And if we simply have congressional gridlock as usual, taxes don't go up as a share of GDP.

Now, you can hear people say--you can sometimes hear me say--that the current law baseline is close to balanced: our primary fiscal gap is only 1.2% of GDP over the next twenty-five years. That assumes that congress will not do what it usually does--which is to change laws so as to reduce revenue and increase spending whenever the date for scheduled tax increases and spending cuts approaches. I believe that we will see this again at the end of this year, when the 2001 and 2003 tax-law provisions expire. While congress let them expire, or will it find some excuse to extend them?

Doug Elmendorf says: don’t bet on congress letting these tax increases take effect. When he looks at the congress and he counts the vote, he cannot see congress restraining itself. He believes that the United States is not on the current-law baseline path, but rather on the Alternative Fiscal Scenario path along which healthcare spending program growth drives an ever-increasing gap between what we are spending and what our revenues are. A

Confident Investors: At the moment, it appears that investors all over the world do not agree with Doug. At the moment, it appears that investors think that the United States government is a sound operation--that in the long run we will balance our budget and that we will raise taxes in order to pay for our spending and also pay off our national debt. That is the reason that U.S. Treasury bond prices right now are so high and U.S. Treasury interest rates right now are so low.

Nevertheless, when you read Doug Elmendorf's Long-Term Fiscal Outlook document and when you look at this picture, it is hard to understand why investors are so confident. What is supposed to change about U.S. politics that will make a congress that has been unwilling to let the AMT fix or or the R&D credit expire actuallay let the expire? Where is a congressional majority supposed to suddenly grab the courage to allow the "middle class tax cuts" to expire, or to allow the special cost on high cost health plans to go into effect, or to let the Independent Payment Authorization Board to do its thing--when these involve big negatibve hits to the incomes of politically powerful groups like doctors, insurance companies, unions, Silicon Valley, doctors again, relatively rich people living in California and New York who own big houses, the rich who are about to die, the rich who give campaign contributions?

The answer is that the world's bondholding investors believe in us. They believe that we will in the end elect representatives and senators who understand that winding up as Zimbabwe is not what you want to do.

A problem is that even before you get anywhere near Zimbabwe--even when people just begin to fear that perhaps there is some chance the government might become one that resorts to hyperinflation--even the fear that there might someday be an unsound government with no plans to balance its budget can itself produce big financial crises and substantial episodes of depression economics. We saw this in Mexico 1995, in East Asia in 1997, in Argentina in 2001, and in Greece in 2010.

What happens when investors stop thinking that your government is certain to be a safe and sound place to put their money? Then the government has a choice between finding some other government to bail it out on the one hand, starting the money printing process on the other hand, and "austerity" on the... I guess on the prehensile tail. If a government reduces government spending to match the limited amount of taxes that it is able to collect--well, this is where Greece is now. It makes people unhappy: they burn police cars in the streets of Athens. So far we haven’t seen situations like this in Iceland or Ireland or Spain or Portugal or Southern Italy yet. But there is a substantial chance that those times are coming to them as well.

Are we close to the edge in which investors appear to be losing confidence in the long term soundness of the U.S. government? Well, no we are not. Will we be there someday? Perhaps. When will we be there? We don’t know.

The long-run U.S. government budget situation is right now what we economist call "unsustainable." My old teacher the late Rudiger Dornbusch used to say two things about unsustainable economic situations: first, they last for longer than economists believe is possible; second, when they end they end very, very quickly. Nobody eighteen months ago saw Greece as prone to capital flight and to a major government financial crisis. Now everybody does.

What happened to make things different after 1980? This is a question to which the right answer differs depending on whether you are a Democrat or a Republican. If you are a Republican, you say that the big problem was the Democratic Party had ruled from 1932 to 1980 by promising that the government would spend more money and pay for it by taxing the rich. Because the rich are a relatively small part of the voters, such promises lead people to elect you and you continue to rule even though your policies are bad for the country in the long run because too-high taxes on the rich do harm investment, enterprise and innovation, and do slow the rate of economic growth and in the end make everyone worse off.

If you are a Republican, you say that the Republican Party had to find a way to compete with the Democratic Party's "spend money on programs you like and pay for them by taxing the rich" meme. How to compete? The only way was to adopt the "spend money on programs you like and pay for them by cutting everybody's taxes" meme. "But that makes no sense!" the Democrats say. "But it is your fault that we are saying this," the Republicans say: "If you Democrats had not been waging this class war since 1932 we Republicans would not have been forced to resort to unbalancing federal government finances in order to have a chance of winning congressional majorities."

If you are a Democrat, you simply say that around 1980 the Republican Party candidates, legislators, apparatchiks, and tame intellectuals simply abandoned what remained of their scruples and ethics.

Since I am a Democrat, the correct answer on the problem is (D). If I were a Republican, the correct answer on the problem would be (E).

Conclusion: What is the most likely outcome for the U.S. government budget come 2060? We have our politics. We have a medical system in which we very much want to have medical care allocated to people who need it as opposed to allocated on your by basis of your wallet. We are unwilling to say: "a coronary bypass would do you good but if you’re not rich enough to pay for it yourself we are just going to let you have your heart attack." So as doctors and pharmacists and nurses and technologists keep on inventing new things to do the list of medically appropriate procedures keeps on growing. Certainly by the time you are 80 there will be a doctor who will say that it is medically appropriate for you to have a cloned heart in the basement of Alta Bates Hospital just in case you suddenly need a hot heart-swap. That is the territory that allocating health care spending according to what is "medically appropriate" tends to push you toward.

We have health-care technologists who are very good at finding new things to spend money on. We have a political-ethical belief that healthcare should be allocated according to what you need rather than how rich you are. We have a government that has agreed to take on a huge load of healthcare spending. We have two political parties, one of which says that the middle class is taxed too high and should get tax cuts (but the rich could easily pay more) and the other of which says that everybody is taxed too much and should get tax cuts. And both parties say that we should not enact major cutbacks to the rate of growth of any forms of federal spending except those that are "waste, fraud, and abuse." And those parts of federal spending that are actually waste, fraud, and abuse--ethanol anyone?--have very powerful political protectors, and are untouchable.

What do people think is the most likely outcome from this situation?

Come 2060 will we have raised taxes by a lot? We could double income taxes between now and 2060 and barely pay for extra government health spending.

Will we have cut doctors’ wages and enslaved them by drafting them into a socialist national health service?

Will we have abandoned our egalitarian healthcare beliefs?

Will the healthcare efficiency cost-effectiveness fairy have come and rescued us?

Or will the federal government as we know it will have collapsed and those of us who are still alive be involuntarily starring in a remake of Mad Max: Beyond Thunderdome?

What do people think?

I am glad to see so many clicking on answer (1). It shows that we have a bunch of optimists--a bunch of people who believe that we will have raised taxes to pay for government spending, and that the United States will become more like a western European country with higher share of government spending in GDP than we have, a mixed economy with more of the government in the mix.

Answer (2) is what Ronald Reagan was worried about in 1961 when he first opposed Medicare. He began cutting records. They would then be distributed around the cities of California. People would come to grassroots meetings. They would play Reagan's records. He would talk about how Medicare was the first stage on the road to full communism and slavery. Because after all, if the government was going to promise that it was going to pay for healthcare it had to raise the resources somehow? What is the easiest way to raise resources? Draft doctors and send them where the government wants and pay them what the government wants. Nobody, Reagan thought, would speak up when the secret police came for the doctors. And he thought that once one group of people loses their freedom then eventually everyone is going to lose their freedom--that in order to keep liberty in America we had to stop Medicare now.

I think that was substantially overwrought. We have now had Medicare for 45 years and we have managed to avoid enslaving our doctors yet. But it is possible.

Answer (3), abandoning our commitment to providing state-of-the-art healthcare to the sick and not just the wealthy. That’s definitely a possibility--especially if health care becomes more and more expensive.

Answer (4) is that the healthcare cost-effectiveness fairy will save us: we will figure out ways to treat people that do not become more expensive over time but instead less. I do not see what those ways would be.

Then there is answer (5), the real dystopian scenario. I don’t think we’re going there. All of the other solutions provide easier safety valves. Even enslaving doctors does not involve a complete collapse of the social contract.